Jeremy Sterngold, Head of Fixed Income
Generally, during the summer months, central banks try to stay out of the limelight. This is primarily due to lower liquidity, given that a lot of market participants are away, and any commentary could exacerbate market movements. The exception to this rule is the annual Federal Reserve (Fed) symposium which takes place at the end of the summer. While this is not an official central bank meeting, in the past this has served as a platform to highlight future policy thinking; only last year the Fed used this event to announce their switch to an average inflation targeting framework.
With the US recovery well underway, expectations have increased that the Fed will reduce its asset purchases or “taper”. Over the past month, GDP data for the second quarter has been published confirming that the US economy is now larger than its pre-pandemic size. A rather swift turnaround compared to the recessions in recent decades. The employment data also showed signs that jobs are plentiful, and that more people are returning to the labour market as the leisure sector has broadly re-opened. Given the strong recovery, it is no surprise that investors see the Fed dialling down its ultra-accommodative stance.
More recently however, some economic data releases have brought into question the resilience of the US economy amid the Delta variant outbreak. Consumer confidence fell quite sharply, and survey data showed a marked decline in service output, although still in strong expansionary territory. Despite these setbacks, the benchmark S&P 500 index has continued to make new all-time highs and has returned in excess of 20% this year (as at 25th of August).
This backdrop makes the situation for the Fed challenging. On the one hand, the recovery has progressed well, with the job market likely to see further gains, and the economy continues to grow at a pace that is above the so-called “trend” levels. While equity markets have delivered solid returns on the back of solid earnings, this is also supported by the Fed’s loose policy stance. On the other hand, however, if the Delta strain continues to put pressure across global supply chains and US states move to reimpose restrictions, this could result in things being set back further.
Whilst the Jackson Hole Symposium may not be the forum where the Fed ultimately decides to map out its tapering plan, given the elevated valuations in both equity and credit markets, the Fed may see increasing risks of maintaining the current policy stance. Should they decide to delay tapering, equity markets may face larger adjustments when they ultimately look to tighten policy. Whilst the path to recovery from the pandemic may be facing further bumps along the road, the Fed will factor in the potential fiscal support coming from the US congress. It is important for investors to remember that the Fed is just thinking about buying fewer US Treasuries and Agency Mortgage Backed Securities over time, rather than raising interest rates or winding down its balance sheet.
Whether tapering gets announced over the weekend or not, it is clear that the Fed is now thinking more proactively about the risks of maintaining such loose policy, especially given elevated asset prices. So, whilst the timing is yet unclear, the Fed does appear to be gently taking its foot off the accelerator.
 GDP – US Department of Commerce, Bloomberg
 Employment – Bureau of Labor Statistics, Bloomberg
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