Morning Notes — Fed Meeting

It is fairly quiet ahead of today’s Fed Meeting (11am PT) and press conference (11:30am). The most likely outcome is a 75bp rate hike with no guidance on December so the Fed can to maintain optionality into 2023.  While this mostly fits our hawkish press conference scenario, we also expect more language suggesting that an eventual stepdown from 75bps is coming.  This scenario may lead to initial downside in the SPX before closing up +50bp on the day. We expect equity upside in four out of six likely Fed scenarios with the SPX notably resilient despite last week’s earnings disappointments from AMZN, GOOGL and META.

Most of the pressure on the SPX this year has come from higher bond yields and curve inversion. The Fed understands that a rapid tightening in financial conditions generates unintended stress on the economy 9-12 months forward. And with all segments of the yield curve now inverted and all real yield tenors now positive, each incremental tightening will generate exponential stress on the economy. Terminal rate expectations have been the key cross market for equities since April with every elevated inflation print through August pushing the terminal date further out. There’s been no shortage of stubbornly elevated inflation data since August, but the terminal date has remained fixed on March ’23. Lower bond yields are the fundamental keys to unlock equity upside and the passage of time will be enough to narrow all curve inversions with any weakness in inflation data pulling the terminal date forward and bond yields lower.

Globally, reports discuss the notable slowdown in the pace of monetary tightening during October. ECB officials continue to sound hawkish despite final Eurozone PMIs falling at the quickest pace since the initial stage of the pandemic. RBA Governor Lane said the central bank is not on a predetermined path and could step up pace of rate hikes if needed, while yen strength follows hits from the BoJ’s Kuroda about a possible tweak to its yield curve control policy if inflation continues to run ahead of expectations.