With everything going on, it’s easy to forget about the upcoming meeting of the Federal Reserve’s interest rate setting body, the Open Market Committee, on Wednesday. Which would be a mistake because, in my opinion, nothing is more important than interest rates (and bond yields) for the direction of stocks over the next four months or so.
The Fed isn’t expected to announce any change in policy on Wednesday. Benchmark interest rates will stay at 0% to 0.25%. The central bank is almost certain to keep buying $120 billion a month in Treasuries and mortgage-backed securities.
But this meeting in scheduled to include an update on the Fed’s projections for future inflation and economic growth. Those words have the potential to shift the market ahead of any action.
Investors wants to know if the Fed agrees with the Wall Street consensus that the economy will grow by an extraordinarily strong real 5% in 2021. (That’s growth before the effects of inflation.) That kind of growth is built in to stock prices at record highs so it would be good for higher stock prices if the Fed endorsed that projection.
Investors will also be listening to hear if the Fed sounds any more worried about inflation than it did at its last meeting or in Fed chair Jerome Powell’s testimony before Congress. The Fed view then was that there was still sufficient slack in the labor market so that the Fed wasn’t worried about inflation even after the passage of a $1.9 trillion coronavirus stimulus and relief package. Anything that can be interpreted as an increase in inflation worry at the Fed would feed into the trend toward lower Treasury prices and higher Treasury yields. The 10-year Treasury closed at a yield of 1.62% on Friday. That’s a 42 basis point increase in yield in the last month. (It takes 100 basis points to make up one percentage point.)
