Fed Chairman Jerome Powell brought the season's greetings to the market with message of goodwill towards risk.
In his speech on Wednesday, Powell shifted from the more hawkish tone in his last press conference and underscored the chance of a smaller hike this month. Fed funds futures now price in an 80% of a 50-basis-point hike on Dec. 14.
"His comments were not more dovish than recent comments by Vice Chair Brainard, FRBNY President Williams or SF Fed President Daly, but eased market concern that he had shifted durably into the hawkish wing represented by StL Fed President Bullard or Governor Waller," Standard Chartered FX and macro strategist Steve Englander wrote in a note Thursday. "The market was caught leaning hawkish going into the speech."
"To be fair, Powell did make some more hawkish points during his speech, but when he did it was generally in line with comments we’d already heard before," Deutsche Bank's Jim Reid said.
But those familiar with Powell's MO will recognize that the Fed chairman giveth and the Fed chairman taketh away. Powell dropped the mic on a dovish note going into the Fed's quiet period, which starts Dec. 3. But if financial conditions continue to loosen into the decision, and that comes at an expected 50 bps, he is likely to temper any more market enthusiasm with a hawkish presser.
Expect max hype around the November CPI, which arrives Dec. 13, the first day of the FOMC meeting.
10-year yield rebound?
The 10-year Treasury yield (US10Y) is down another 10 basis points to 3.60% Thursday morning and further declines in December could be in the cards. There isn't technical support until down at 3.37%, according to Societe Generale.
But SocGen also said the jury is still out on whether Treasuries have moved into a "new and sustainable range."
A 3.6% 10-year yield is 140 basis points below the discounted Fed terminal rate of 5%.
"That’s quite a spread. We think it’s far too wide," ING strategists wrote. "It’s telling us one of two things: (1) If the Fed hits 5%, then it’s not sustainable and a cut is coming really soon after that, or (2) The Fed will in fact not hit 5% at all, and they are done in December."
"We think the Fed does hit 5% (in February), and that the 10yr should be comfortably back above 4% in anticipation of that," they said. "This can happen soon, but could also morph into a turn of the year call, as we're now in this weird end of year swing where anything can happen."
'Tis the swing season
While Powell is a wildcard for December, equity bulls and dollar (DXY) bears have seasonality in their corner.
"Stocks up, dollar down. It must be December," SocGen's Kenneth Broux said. "Seasonality is firmly established in favor of risk appetite this time of the year and more often than not resulted in a weakening dollar especially against Yen and Euro."
"This may explain the over-reaction to Powell’s comments yesterday which in truth did not impart much new information over the path ahead for interest rates," Broux added.
"The period from Thanksgiving into yearend is strong and favors a yearend rally," BofA technical strategist Stephen Suttmeier said. "From the closing price of the day before Thanksgiving through the last day of the year, the SPX is up 71% of the time with an average return of 1.49% (1.70% median)."
"Within this period, Christmas Eve through New Year’s Eve is up a greater percentage of the time than Thanksgiving through Christmas Eve, which reflects the Santa Claus rally."
For bonds "there can be some net buying going on as investors square books into year end, often buying back duration that had been shorted during the year," ING's team added. "The first quarter of 2023 will bring the realization that the flip from 22 to 23 does not magically rid us of inflation risks that the Fed will feel emboldened to continue to address."
"Market rates are not fully reflecting this; but they will."
Dig deeper into November's stock market rally.