Edward Park, CIO at Brooks Macdonald, argues that the communication blackout period ahead of the Fed meeting could create the most volatile period for markets so far in 2021:
“The major topic in markets at the moment is the recent, rapid rise in bond yields which has sent ripples through high growth equities in particular. There is a tug of war between two camps; those that believe a period of post-COVID inflation will be transitory and those that believe it will be sustained. There are good arguments on both sides, but until we have a firm idea of the economic scarring wrought by the pandemic, neither side will be proclaimed victor. Just because there is no conclusion in sight does not mean that the debate will not rage, however – and this debate is the primary cause of recent market volatility.”
The big question is how long will central banks let this rise in yields last?
“Central banks globally have recognised that a sustained pick up in yields would put the brakes on the nascent economic recovery and snuff out hopes for a more moderate inflationary backdrop. The Reserve Bank of Australia stepped in this week, leading to the sharpest fall in Australian 10-year bond yields in almost a year. ECB President Lagarde and a series of ECB Governors have warned that action may be required to stem the recent rises in yields in Europe as well. Meanwhile, the Federal Reserve has continued with its reassuring message that inflationary pressures will be transitory and that they are in no rush to tighten monetary accommodation. This week markets were no longer calmed by words however, and demanded action.
“On Thursday, Federal Reserve Chair Powell was set to speak with investors hoping he would set out a series of actions the US central bank would take to curb further rises in bond yields. Instead, Powell repeated the familiar Fed narrative in an attempt to reassure investors. Coming into the speech, US equity markets were in positive territory for the day – but the lack of credible action within the speech catalysed a 3% sell-off in US equities, as 10 year Treasury yields rallied, bringing the benchmark yield close to 1.6%.”
Why is next week critical then?
“Ahead of the Fed’s scheduled meetings there is a communication blackout period to ensure no possible miscommunication around policy measures before the post-meeting announcement. The blackout period begins tomorrow ahead of the meeting on 16th/17th March, meaning markets will effectively be forced to draw their own conclusions over that period. In a time when there is a significant tug of war between the transient inflation and sustained inflation camps, a lack of steer from the world’s largest central bank means volatility. Investors see Powell as having missed his opportunity to reassure markets with action, creating a particularly sensitive backdrop for risk appetite. Nature abhors a vacuum and so do financial markets, meaning next week could be the most volatile of 2021 so far.”