over 1 year ago • 2 mins
The Fed just hiked interest rates by 0.75 percentage points, bringing them to 2.25-2.50%. And surprisingly, stocks rose on the announcement. That’s partly out of relief: investors were expecting a hike of that size, and were wary of an even bigger hike if anything. And it’s partly because the Fed suggested it would take less aggressive action in the future if data supported it.
But it’s not all sunshine and rainbows. If you put today’s 0.75% hike together with last month’s hike of the same size, the Fed is in the middle of its most aggressive hiking schedule since 1989. And for good reason: inflation’s at a four-decade high. But with the labor market still looking strong, the Fed's trying to engineer a perfectly sized slowdown: just enough to bring inflation lower, but not so much as to push the economy into recession. If you look at how stocks have performed lately, investors seem to agree that the Fed might just pull it off. But in reality, that's still very difficult to achieve.
See, the Fed’s chairman stressed that he wants “clear and convincing” evidence of inflation on its way down before adjusting interest rates any further in either direction. And since inflation lags economic growth – it takes some time for the inflation rate to reflect changes in the economy – this evidence may take a while to arrive. In the short term, economic growth is likely to disappoint and inflation to remain stubbornly high. So at its next meeting, the Fed may find itself in the difficult position of choosing between a harsh recession and high inflation.
This uncertainty will probably limit any more stock market gains. So despite the current rally in stock prices, you'd do well to stay cautious. The macro environment has rarely been as uncertain as it is right now: if there was ever a time to play defense, this is probably it.
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