What the Fed’s Rate Hike Means for the Markets

Well, the Federal Reserve finally did it.

A view of the Federal Hall on Wall Street.

Source: f11photo/Shutterstock.com

For the first time in over three years, officials with the Federal Open Market Committee (FOMC) on Wednesday approved an interest rate hike by a quarter-percentage point, as I had expected. However, the statement was also more hawkish than I anticipated.

The move to bring interest rates into a range from 0.25% to 0.5% comes as the U.S. faces the highest level of inflation in four decades, due to “supply and demand imbalances related to the pandemic, higher energy prices, and broader price pressures.”

The FOMC noted further that the Russian invasion of Ukraine, while causing “tremendous human and economic hardship” is also likely to create “additional upward pressure on inflation and weigh on economic activity.”

The Fed also said it anticipates “ongoing increases in the target range will be appropriate.”

The FOMC also said it could soon start its plan to reduce its $9 trillion asset portfolio.

During Fed Chairman Jerome Powell’s press conference, he stated that each of the remaining six FOMC meetings for the year could present an opportunity to raise rates to at least pre-pandemic levels. According to new “dot-plot” projections, that would bring the fed-funds rate to 1.875% by the end of the year, and up to 2.75% by the end of 2023.

“The committee is determined to take the measures necessary to restore price stability,” Powell said after the meeting. “The U.S. economy is very strong and well-positioned to handle tighter monetary policy.”

Powell’s press conference did seem to reassure investors that the Fed would raise key interest rates gradually, which triggered a relief rally in the afternoon. The Dow Jones Industrial Average, S&P 500 and NASDAQ Composite ended the day up 1.2%, 1.8% and 3.2%, respectively, after trading lower in the morning.

The reality is the yield differential between the 2-year Treasury note and 10-year Treasury bond is now too close for comfort and likely will cause the Fed to hesitate on further interest rate hikes.

Under no circumstances does the Fed want to invert the yield curve, since it would cause undue stress on the banks that the Fed regulates. Also, due to low global yields in the European Union (EU) and Japan, it will naturally prohibit the Fed from raising key interest rates too much, otherwise, the U.S. could also slip into a recession. There is no immediate risk that the U.S. will fall into a recession as the Atlanta Fed revised its first-quarter GDP forecast to an annual pace of 1.2%, up from a 0.5% annual pace previously estimated.

I should add that the Bank of England also raised interest rates by 0.25% and marks the third-consecutive time the bank has raised rates each time it has met. The move brings interest rates in England back to the pre-pandemic level of 0.75%.

While we now have more certainty regarding the Federal Reserve and its next steps to combat inflation, there is still uncertainty in other pockets of the market (and the world).

Other Pockets of Market Uncertainty

For example, economic conditions have been slowing in China as the country struggles to contain a new COVID-19 outbreak. Citi analysts predict China’s GDP could see at least a half percentage-point drop as a result.

The country still has far fewer COVID-19 cases than have been reported elsewhere in the world, but it is maintaining its “zero-Covid” policy and implementing some lockdowns in key global supply chain industry hubs, including Shenzhen, Dongguan and Shanghai.

So far, the Chinese government has been working to keep crucial supply chain hubs operating where it can, including at the port in Shenzhen. Government officials have also allowed Apple Inc. (NASDAQ:AAPL) supplier Foxconn to keep its Shenzhen operations running while workers operate in a bubble. The same goes for some construction sites in Shanghai.

There was a strong bounce in Asian stocks Wednesday as Hong Kong’s Hang Seng Index rose more than 9% following news China plans on maintaining capital market stability and taking action to mitigate risks for underwater property developers. Chinese stocks consolidated gains today, however.

Cease-fire talks between Russia and Ukraine restarted Wednesday as Ukraine is apparently considering dropping its request to join NATO if it may reach security guarantees from its allies and Russia.

Commodities markets have been oscillating wildly lately with outrageous action in global nickel markets, as Russia and Ukraine are major nickel exporters. The metal is a key component used in the batteries of electric vehicles (EVs), which is why we’ve seen electric vehicle companies like Tesla, Inc. (NASDAQ:TSLA) and Rivian Automotive, Inc. (NASDAQ:RIVN) raise prices recently. (I’ll talk more in-depth about the latest in the EV industry in tomorrow’s Market360 article, so stay tuned for that!)

With inflation soaring at 40-year highs, it’s difficult for companies to price their products right now, as is evident in the latest retail sales report from the Commerce Department.

Retail sales climbed 0.3% in February, which was below analysts’ forecasts for a 0.4% rise and well below the 4.9% increase in spending in January. Gas sales at gasoline stations were up 5.3% in February and 36.4% from a year prior. Sales at restaurants and bars increased 2.5%.

The situation is that retail sales are now just tracking inflation, and we’re in a stagflation environment with rising inflation and a slowing economy.

Meanwhile, Russia is in a depression with its stock market remaining closed and Europe increasingly looks like it will officially fall into recession, too.

Stocks Are an Oasis

The good news is that stocks remain an oasis and a great inflation hedge, particularly fundamentally superior stocks that boast strong sales and earnings and can raise prices.

Right now, that’s clearly energy stocks, retailers, semiconductors, shipping stocks and others.

In fact, three of the fundamentally superior stocks on my Accelerated Profits Buy List just hit fresh 52-week highs last week.

All three earn my highest rating of “A” for their Total Grade in my Portfolio Grader, as well as an “A” for their respective Quantitative Grades. This tells me that there is persistent institutional buying pressure under the stocks. They also earn an “A” or a “B” for their Fundamental Grade.

And that’s just the beginning.

I expect these stocks, as well as my other Accelerated Profits recommendations, to climb higher once quarter-end window dressing begins in late March. Essentially, this is when professional money managers shore up on high-quality stocks to make their portfolios “pretty.” Given that my Accelerated Profits stocks have superior forecasted sales (32%) and earnings growth (83.7%), as well as a strong earnings surprise history (28.9%), I expect institutional investors to turn to them first.

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The first is in the fertilizer industry, and analysts have upped its first-quarter earnings estimates by 30.3% in the past three months, so a quarterly earnings surprise is likely when it reports in early May. The second is a leader in the energy industry with a nine-figure merger in the works and triple-digit forecasted earnings growth for the first quarter. And the third is another energy industry innovator that’s seen its first-quarter earnings estimates nearly triple in the past two months.

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The Editor hereby discloses that as of the date of this email, the Editor, directly or indirectly, owns the following securities that are the subject of the commentary, analysis, opinions, advice, or recommendations in, or which are otherwise mentioned in, the essay set forth below:

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