Weekly Market Update 5/31/2022

The Federal Reserve is moving full steam ahead on the monetary policy tightening front. The central bank strategy is to cool the economy, hoping that “tighter” money will reduce demand for goods and services, and thus reduce inflation. Specifically the Fed is quickly raising the benchmark short-term interest rate while also selling bonds for cash. The idea is that by removing cash from the financial system, consumer and business spending will be reduced. The bank feels that with less total spending, recent price rises will be moderated.

The Fed begins the bond sales, referred to as reducing assets on its balance sheet, on June 1st. For the next three months, the plan is for monthly selling of $30 billion of Treasury obligations and $17.5 billion of mortgage-backed securities. Thereafter, the bank plans to double the monthly rate (to $95 billion), but that could be altered if economic conditions warrant.

Higher borrowing costs (the rate on 30-year fixed mortgages was 5.25% when we went to press) are starting to impact the pace of home sales. Indeed, April existing home sales fell 2.4%, to a seasonally adjusted annualized rate of 5.61 million, marking the third-consecutive month of declines. Meantime, new home sales tumbled 16%, to an annualized seasonally adjusted rate of 591,000.

Then there is the U. S. consumer, who is starting to dial back spending on discretionary items. Stubbornly high inflation, including record nominal prices being paid at the gasoline pumps and grocery stores, is playing a part in the recent drop in discretionary expenditures. On point, the big retailers, including Walmart and Target, said inflation is now pressuring their operating margins.

Wall Street is skeptical about the Federal Reserve’s ability to navigate a soft landing for the U. S. economy. Too, the risk of global recession is growing, given the recent disappointing economic data stateside and the economic struggles in China, exacerbated by the recent COVID-19 mandated lockdowns there.

Conclusion: We are in the midst of a very volatile stretch. In such periods, there is risk for investors who focus too much on a particular sector of the economy. 

Source: Valueline.com