Introduction to the report / core points
At this interest rate meeting, the Federal Reserve clearly will raise interest rates in March. From the current situation, the probability of raising interest rates by 25bp is high. In the statement after the meeting, Powell pointed out that "the possibility of raising interest rates at each interest rate meeting cannot be ruled out". We believe that this statement is more from the perspective of inflation expectation management. More hawkish policy statements may continue to be seen in the future, but the probability of actually promoting austerity at this pace is low. This month, the statement of principles on the reduction of tables was issued as scheduled, which is mainly based on principled statements, and historical experience has proved that it has no inevitable connection with the start-up time of the reduction of tables. It is expected that the Fed will raise interest rates only once in March, and it is difficult to see the shrinking table: we believe that after the start of the first interest rate hike in March, combined with the downward pressure of the US economy, US stocks may make a sharp correction due to the dual pressure of valuation and profit (driven by short-term profits, US stocks still have upward action), and financial stability will restrict the pace of further interest rate hike and tightening of the fed in Q2; After inflation expectations fall in the second half of the year (after the risk of runaway inflation and self realization of inflation expectations is eliminated), the need for the fed to continue to raise interest rates and even further shrink the table will be significantly reduced.
Taper ended in March and made clear the interest rate increase in March. From the current situation, the probability of raising interest rate by 25bp in March is large. In terms of bond purchase scale, taper maintained at $30 billion / month (US $20 billion treasury bonds + US $10 billion MBS). At the current rate, the Fed will complete the exit of quantitative easing in March 2022.
In terms of interest rate range, the Federal Reserve maintained the benchmark interest rate at 0% - 0.25%, and the reverse repo interest rate and Excess Reserve interest rate (Ioer) remained unchanged, in line with expectations. The statement of this meeting proposed that "inflation continues to be higher than 2% and the employment market is strong, and the conditions for raising interest rates are expected to mature soon". From this statement, it is expected that there is a high probability of announcing an interest rate increase of 25bp in March. After the meeting, Powell also made it clear that he would raise interest rates for the first time in March. From the perspective of futures market, CME interest rate futures shows that the probability of raising interest rate by 25bp in March has exceeded 93%, which continues to increase slightly compared with that before the meeting.
Hawks pointed out that the possibility of raising interest rates at each interest rate meeting is not ruled out. The main purpose is expected management rather than actual rhythm. In the statement after the meeting, Powell pointed out more hawkish that "the possibility of raising interest rates at each interest rate meeting is not ruled out". This statement is more hawkish than market expectations. We think this statement is more from the perspective of inflation expectation management, The probability of actually promoting austerity at this pace is low. We pointed out in our previous report that the actual tightening of the Federal Reserve may be less than expected "In the context of Q1 inflation pressure, on the one hand, the Federal Reserve needs to manage inflation expectations through a hawkish attitude; on the other hand, it also needs to reserve policy initiative for itself to prevent the sharp turn of policy from having a greater impact on the market once inflation is out of control. Therefore, Q1 Federal Reserve will continue to step up its attitude towards monetary policy.
In terms of inflation, the statement of this meeting pointed out that "the promotion of vaccines and the easing of supply chain pressure will reduce inflation pressure". Although the fed no longer uses "temporary inflation", it is still clear that inflation will fall with the easing of supply-demand mismatch. It believes that there are multiple factors that can drive inflation down this year; In addition, the Fed pointed out that it will continue to pay attention to wage changes in the future, and believes that the mitigation of the epidemic will still improve employment and labor force participation rate. Economically, Omicron is believed to affect economic growth this quarter and may prolong the repair time of the labor market.
The statement of "not excluding the possibility of raising interest rates at each interest rate meeting" is also the most unexpected aspect of this interest rate meeting. After this statement, US stocks fell sharply, and the NASDAQ index fell (up more than 3% before); The yield of 10-year US bonds and the US dollar index rose sharply, with the former hitting 1.84% and the latter breaking through 96.4, both approaching the previous high.
The statement of principles on table reduction was issued as scheduled, which is mainly expressed in principle and has no inevitable connection with the start time of table reduction. The Federal Reserve released the statement of principles on table reduction (hereinafter referred to as the statement) this month, Provide principled guidance on the path and method of future table reduction (the Federal Reserve usually issues this guidance before the end of taper and updates it according to the policy process. The last round of statement was issued in September 2014 and TPAR ended in October of the same year). The guidance of the statement on the reduction of the table is still mainly expressed in principle: at the time point, the statement points out that the time point of the reduction of the table will be after the first interest rate increase. This statement is a conventional expression of principle, which is consistent with the statement in the minutes of the interest conference in December and the statement document in 2014; In terms of methods, the reduction of the table is mainly carried out by reducing the reinvestment of bonds at maturity, which is in line with expectations, and the Fed will not reduce the table by taking the initiative to sell; In terms of speed, the statement does not give clear information, but it is more radical in the choice of words. Compared with the "gradual" reduction table used in 2014, the word used this time is "significant" reduction table, indicating that once this round of reduction table is started, the speed will be significantly faster than that in 2014, which is consistent with our previous judgment.
It should be noted that although the statement mentions both interest rate hike and table reduction, its release time is not absolutely related to the start time of relevant policies. For example, the exit cycle of the previous round of Federal Reserve easing policy: the statement was released in September 2014 (and the description of the time point of table reduction is basically the same as this time), and the Federal Reserve only started the first table reduction in December 2015, The scale reduction was only started in October 2017. Therefore, we still need to dynamically observe the changes of the Fed's policy stance in the future. Throughout the year, we believe that the core focus of the Fed's monetary policy changes should observe the evolution of US stocks and inflation.
The earlier guidance to shrink the table is mainly due to the consideration of policy space. The lower than expected rate increase will reduce the necessity of shrinking the table. Combined with the minutes of the interest rate meeting in December, we believe that the more hasty mention of shrinking the table by the Federal Reserve in the process of normalization of this round of monetary policy is mainly due to the consideration of policy space, that is, the term interest margin of 10-year-2-year treasury bonds. The normal interest rate increase cycle is accompanied by the narrowing of the term interest margin. The narrowing of the term interest margin to 0 means that the space for interest rate increase is exhausted, and the fundamental trend and the stock market will be obviously under pressure. At present, the 10-year and 2-year term interest margin is less than 70bp, and the policy space is significantly less than the average level before the start of the previous interest rate increase cycle (the average is 105bp). In view of the fact that the reduction of the table can raise the long-term interest rate more (the weighted average duration of the Federal Reserve's holdings of treasury bonds is 7.6 years, and the reduction of the scale of holdings of treasury bonds is mainly concentrated in the long-term end), the narrowing speed of term interest rate spread can be appropriately delayed to provide policy space for the Federal Reserve to raise interest rates. Therefore, the table contraction can be regarded as a combination of interest rate hikes. Once the rate hike in the future is less than expected, the necessity of table contraction will also be significantly reduced.
After the inflation expectation falls, the price problem will give way to financial stability. It is expected that the interest rate will be increased only once in March, and it is difficult to see a contraction. Our prediction of the rhythm of the Fed's monetary policy throughout the year is as follows: the interest rate will be increased for the first time in March, and it will be increased once a year, and it is difficult to see a contraction. In the context of gradual recovery of employment, whether the Fed can continue to tighten in 2022 comes from the trade-off between price stability and financial stability. Once the actual inflation growth rate drops and inflation expectations return to stability, the stability of US stocks will become an important constraint for the fed to continue tightening in the context of the mid-term election. Specifically, the Federal Reserve started to raise interest rates for the first time in March; However, there may also be significant downward pressure on US stocks (see the analysis below for the trend of US stocks), and the Federal Reserve may suspend Q2 interest rate hike due to financial stability; After the inflation pressure fell in the second half of the year (see the previous report "the Fed's interest rate hike is intended to crack down on inflation expectations") the necessity of raising interest rates further decreased, and US stocks will continue to rebound after the interest rate hike expectation is falsified to help the Democratic Party win the election. In the whole year, it is expected that the Fed will raise interest rates once and it is difficult to see a contraction.
In addition, we believe that in the short term, we also need to pay attention to the fermentation of the crisis in Ukraine. If the conflict between the United States and Russia in the future intensifies beyond expectations and escalates into a large-scale military conflict, the market risk appetite may be further suppressed and put pressure on US stocks. In extreme cases, we do not rule out the possibility of delaying the time point of the first interest rate hike by the Federal Reserve.
Short term earnings can still drive US stocks upward. After the first interest rate hike in March or due to the resonance of valuation profit pressure, we believe that US stocks still have upward action driven by earnings from January to February. After the first interest rate hike in March, US stocks may make a significant correction due to the dual pressure of valuation and profit under the background of the linear increase of tightening expectations and the increasing downward pressure on the economy. In the short term, earnings can still drive US stocks upward. At present, the S & P 500 component company announced that the proportion of Q4 performance exceeding expectations in 2021 has reached 79.7%, which is lower than the Q3 margin in 2021, but still higher than the level in 2020. Before the first interest rate hike in March, US stocks still have the momentum to rebound. After the first interest rate hike in March, on the valuation side, the market will further tighten the expectation of linear pricing (we believe that the current pricing degree of US stocks on the pressure of interest rate hike still lags behind us bonds and interest rate futures, and the recent correction is more due to the uncertainty of the rhythm of short-term interest rate hike and geopolitical risks); On the profit side, it will fall with the emergence of the high point of the US economy. With the US Treasury replenishment coming to an end, the economy will show a quarter on quarter growth rate, with a downward rhythm. The high point of US economic growth will appear in Q1, and the profit expectation will continue to deteriorate during the year. US stocks may make a further sharp correction due to the resonance of valuation and profit pressure after the first interest rate increase.
With regard to US stocks, we believe that we need to focus on two major time points in the future: first, the game of raising interest rates for the first time, and we need to focus on the challenge of raising interest rates "from 0 to 1" to US stocks with high valuation; Two, if the US stock market is subject to the "first interest rate increase" test, the focus should be shifted to the change in the term of the 10 year -2 period. The term spreads will easily pierce the US stock bubble. The essence of the signal is also a combination of increased valuation pressure and a worsening economic outlook, which will result in a continuous increase in interest rates by the Federal Reserve. Judging from the changes in the yield of the current 10-year and 2-year treasury bonds, the current term interest spread has narrowed to less than 90BP, and the yield may be upside down after four interest rate hikes.
In terms of US bonds, Q1 we believe that the yield of 10-year US bonds still has upward action driven by tightening expectations. Under the background that the short-term inflation has not yet peaked, the Fed may further convey the hawkish attitude and push up the yield of US bonds through the time range of table contraction and interest rate increase, The high point may hit 2%, and the peak time is expected to be in March (the verification period for further tightening expectations); Since then, the interest rate increase is not as strong as expected, which will reduce the constraints on policy interest rates. The US bond yield will reflect the expectation that inflation and fundamentals will both fall, showing a central downward trend from high to low throughout the year. From the perspective of structure, the overall trend will be alternating between the rise of real interest rate and the decline of inflation expectation (it is expected that the upward stage of real interest rate will mainly focus on the first half of the year, and it will also turn downward in the second half of the year, which is good for the trend of gold price).
In terms of the US dollar, we maintain our previous judgment that the expectation of short-term interest rate hike may drive the US dollar index to continue to fluctuate at a high level; The US interest rate hike in 2022 is not as strong as expected (the deviation degree of monetary policies in Europe and the United States will converge in 2022. The European Central Bank is optimistic about inflation and is constrained by debt problems. It has repeatedly pointed out that the probability of interest rate hike in 2022 is very low. For details, please refer to the previous report "whether there will be a tide of interest rate hikes by the central banks of developed countries") and the European reserve replenishment will soon lag behind the US, The dollar index is expected to return to the downward channel and dip 90.
Risk warning: the epidemic situation exceeded expectations, resulting in the extension of the easing cycle; Higher than expected inflation led to rapid tightening by the Federal Reserve.
