George Lagarias, Chief Economist at Mazars comments:
“Talking about ‘a Santa Rally’, or ‘falling inflation’ (as much as we are in that camp) as early signs of a ‘Fed Pivot’, may be premature. Last week’s good consumer inflation figures are certainly encouraging, but mostly the product of simple year-on-year arithmetic. Meanwhile, the sticky part of inflation, services inflation, is rising persistently. During the week, we heard from no less than ten Fed officials, most of whom suggested double instead of triple rate hikes, but no one even so much hinted at a ‘pivot’. We would not fight the Fed on this. In fact, it is now time to consider what the pivot itself looks like.
“First, we see no evidence of a pivot materialising until the beginning of 2023. We think there might be two types of pivoting. The ‘orderly’ and the ‘disorderly’ pivot. The ‘orderly’ pivot would start with verbal cues. There could be some more accommodative language by the Fed, possibly acknowledging the build-up of external risks and that the terminal rate has been reached. This should be enough to reassure the markets that the ‘Fed Put’ is there, unlocking liquidity and reducing volatility, without the Fed having to compromise its Quantitative Tightening programme significantly, and helping its overarching goal, the normalisation of the yield curve. A steady de-escalation of rates would follow, with Quantitative Tightening moving independently.
“The ‘disorderly’ pivot would be an accelerated version which would see a rapid de-escalation of rates and possible return to Quantitative Easing if inflation fell faster than expected, the economy entered a deep recession, or the bond market showed signs of stress. The possibility of this scenario is why we believe the pivot might be drawing closer. Not because the Fed said so. It hasn’t. But because we believe it wants to go ahead with Plan A as painlessly as possible and to expend the least amount of ammunition. If the FOMC waits for too long, then a volatile market could continue to expose weak spots (UK pensions funds, FTX), until something of value finally breaks, forcing the US central bank to quickly rewind a very painful rate normalisation process.”
