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What if the Market Has Misread the Fed?

By Michael KramerMarket OverviewDec 09, 2022 05:47AM ET
www.investing.com/analysis/what-if-the-market-has-misread-the-fed-200633305
What if the Market Has Misread the Fed?
By Michael Kramer   |  Dec 09, 2022 05:47AM ET
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  • Focus is likely to shift from the pace of rate hikes to their destination at the upcoming Fed meeting
  • Currently, the market is pricing a significant amount of rate cuts in 2023.
  • This may come at odds with what the Fed sees.

The upcoming Fed meeting is likely to deliver investors plenty to talk about. Jay Powell has already met the market expectations for a possible downshift to 50 bps rate hikes at the December FOMC meeting. However, after that downshift, the focus will shift from the pace of rate hikes to their final destination.

At least for now, the Fed Funds Futures seems content with the Fed pushing rates to about 4.9%. This is significantly less than what the futures were looking for at the last Fed meeting. On November 2, the futures market saw the rate peaking at 5.07%. On top of that, the futures are now pricing in steeper and faster rate cuts.

Fed Funds Futures Now and After Last FOMC Meeting
Fed Funds Futures Now and After Last FOMC Meeting

Differing Opinions

After a year of rate hikes and a year of forward guidance, one would think that the Fed and the market would be at the point where everyone agreed. That is not the case. Powell and other Fed board members have notably discussed that they see rates going higher than indicated at the September FOMC meeting. The projections in September were calling for a peak terminal rate of 4.6% then. Now, the talk has been as high as 5% to 5.25%.

Instead, the Fed Funds Futures market is pricing in a peak terminal rate of 4.92% by May and pricing in rate cuts that bring the Fed Funds rate back down to 4.55% by December. This implies that there may be mispricing in the market by as much as 50 to 75 bps, which is meaningful because the 2-year Treasury rate is probably too low.

A Potential Mispricing

Not only that, but it possibly also means that the entire market is mispriced from equities to the dollar, as the market has focused on the Fed’s overtightening and needing to cut rates sooner narrative. That potentially means that the recent weakening of the dollar has been too much, and the recent rally in the equity market has been too high.

It will put even more emphasis not on the pace of rate hikes in the future but on where the Fed sees the terminal rate versus the market. Everything from the Fed meeting onward is likely to hinge on how good of a job Powell can do with convincing the market that rates will rise to 5% and potentially be held there for all of 2023. If he can do that, there is probably a very big mispricing in the market currently, which suggests that rates go higher, the dollar strengthens, and financial conditions tighten.

Disclosure: Charts used with the permission of Bloomberg Finance LP. This report contains independent commentary to be used for informational and educational purposes only. Michael Kramer is a member and investment adviser representative with Mott Capital Management. Mr. Kramer is not affiliated with this company and does not serve on the board of any related company that issued this stock. All opinions and analyses presented by Michael Kramer in this analysis or market report are solely Michael Kramer's views. Readers should not treat any opinion, viewpoint, or prediction expressed by Michael Kramer as a specific solicitation or recommendation to buy or sell a particular security or follow a particular strategy. Michael Kramer's analyses are based upon information and independent research that he considers reliable, but neither Michael Kramer nor Mott Capital Management guarantees its completeness or accuracy, and it should not be relied upon as such. Michael Kramer is not under any obligation to update or correct any information presented in his analyses. Mr. Kramer's statements, guidance, and opinions are subject to change without notice. Past performance is not indicative of future results. Past performance of an index is not an indication or guarantee of future results. It is not possible to invest directly in an index. Exposure to an asset class represented by an index may be available through investable instruments based on that indexNeither Michael Kramer nor Mott Capital Management guarantees any specific outcome or profit. You should know the real risk of loss in following any strategy or investment commentary presented in this analysis. Strategies or investments discussed may fluctuate in price or value. Investments or strategies mentioned in this analysis may not be suitable for you. This material does not consider your particular investment objectives, financial situation, or needs and is not intended as a recommendation appropriate for you. You must make an independent decision regarding investments or strategies in this analysis. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Before acting on information in this analysis, you should consider whether it is suitable for your circumstances and strongly consider seeking advice from your own financial or investment adviser to determine the suitability of any investment. Michael Kramer and Mott Capital received compensation for this article.

 
What if the Market Has Misread the Fed?
 

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Comments (18)
Cornel Pod
Cornel Pod Dec 11, 2022 8:13PM ET
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The market does not misread often especially the bond market.
Kerry Ditto
Kerry Ditto Dec 10, 2022 9:46PM ET
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prob fed's realistic real target is less than 4%. if so, current mkt is underpriced too much.
Reading Order
Reading Order Dec 10, 2022 3:46AM ET
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order union Team
Isaac Levy
Isaac Levy Dec 09, 2022 5:43PM ET
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My deepest thanks to Michael for his evenhanded evaluation of market conditions, and potential directions. That the market takes, on a short-term, and long-term basis! At 79 years old, I am finally profitable and reaping the benefits of tax-free profits, based on many years of losses. God bless you, Michael!
DONGHUN LEE
DONGHUN LEE Dec 09, 2022 11:55AM ET
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Good article. Well done. Thank you.
David Beckham
David Beckham Dec 09, 2022 11:43AM ET
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Easy short
David Beckham
David Beckham Dec 09, 2022 8:30AM ET
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Easy short kramer too easy you will win big one day but before that let’s others win first spend more time on writing it’s good for you
Tomas No
Tomas No Dec 09, 2022 8:29AM ET
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Nothing. Market is always right even when it's apparently not. What's your gain from being smarter and comprehending FED well ?
Hank Williams
Hank Williams Dec 09, 2022 8:18AM ET
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There are some great shorting opportunities with more getting created everyday. Keep going Santa.
Yehuda Toledano
Yehuda Toledano Dec 09, 2022 8:16AM ET
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The fed is guessing, not more!
First Last
First Last Dec 09, 2022 8:16AM ET
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The Fed never claimed to be able to predict the future.
 
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