At last Wednesday’s Federal Open Market Committee (FOMC) meeting, the Federal Reserve (Fed) announced it may begin tapering its quantitative easing (QE) program may happen “soon.” Since March 2020, the Fed has been expanding its balance sheet by $120 billion per month, so investors likely have known this moment was coming. However, contrary to expectations from some market participants, U.S. equities rallied, and bond yields actually moved lower in reaction to Fed Chair Jerome Powell’s press conference remarks. PNC Economics expects the Fed to announce tapering action at its November FOMC meeting; we think this will be followed by the media reacting with sound bites from the prior cycle equating tapering with the tightening of financial conditions and memories of the 2013 “taper tantrum.” We believe the Fed is willing to taper QE because it sees organic strength in economic growth, and investors should not view QE as a negative market event. We cover this topic in our upcoming Strategy Insights publication, Don’t Fear the Taper.
For the ninth time this year, the S&P 1500® has touched or fallen below its 50-day moving average with the same end result: Within two days, the index was back above that moving average and finished the week with a positive return. We remind investors that we are in an accelerating expansion of the business cycle, and thus while the market is long overdue for a meaningful pullback, we view such a moment as an opportunity rather than a time to be cautious.
The MSCI World ex USA Index finished lower for the third consecutive week; however, this was primarily due to Japanese stocks cooling after a four-week rally. This weekend’s German elections may add to market volatility should the incoming government offer a different agenda from the Prime Minister Angela Merkel era of the past 20 years.
The MSCI Emerging Markets Index remained weighed down by concerns over China Evergrande Group; however, the real estate sector actually finished positive on the week. Please see our recent publication Our Thoughts on Market Concerns in China for more information regarding this topic.
Fixed Income Markets
While a number of companies opted to delay issuing bonds due to market volatility at the start of the week, both investment grade and high-yield weekly credit spreads narrowed by the most since early April. This suggests to us that while corporate bonds remain expensive on a historical basis, the underlying fundamentals are strong in the face of macro uncertainty.
Chart of the Week
Bond yields across the U.S. Treasury yield curve spiked late last week, including the 30-year yield’s biggest one-day jump since March 2020. Rather than taper talk, we believe interest rates reacted primarily to a few global macroeconomic events. The first was surprisingly hawkish commentary from the Bank of England meeting on Thursday morning. The second was the challenge to raise the U.S. debt ceiling and to avert a potential government shutdown heading into the end of the fiscal year on September 30. Included in the negotiation discussions is a revival of significant spending, including infrastructure stimulus, which Congress has been unable to approve. As these negotiations carry on, U.S. Treasury Secretary Janet Yellen has stated that the debt ceiling could be breached during the month of October. We believe the probability of a debt default is essentially zero; however, the compromise to avoid that from happening and potentially increasing the deficit has fixed income investors on alert.