It was a very interesting Fed meeting.
As always, the details make or break the difference. Let's take a look at some of the most interesting details and market implications.
"Trust me, our austerity will be enough to bring inflation down to 2 percent. It will be enough." That's what Jerome Powell said as he concluded his press conference, a powerful message reflected in Updated bitmap.
Some interesting points can be found from the figure. Twelve of the 19 members of the Federal Open Market Committee (FOMC) expect the federal funds rate to range between 4.50% and 5.00% through December 2023.
The predictive power of the dot plot is poor, but its signaling effect here is clear - we are poised to remain very tight for a long time.
Will the market (blue) accept such an aggressive dot plot (orange)? It seems unlikely.
The Overnight Index Swaps (OIS) market is pricing in a similar terminal rate of 4.6%, but it's really hard to believe the Fed can keep rates above 4% for two years.
Powell often refers to the situation in the late 1970s: premature easing of monetary policy while fighting inflation can have undesirable consequences.
The core PCE price index is hardly going to plummet, let alone a pause in tightening.
The inflation in the "necessities" that Powell referred to is also relevant, and if it persists, low-income earners will take advantage of a tight labor market and demand further increases in wages.
In terms of consumer spending, low-income earners are an important group.
All in all, it's a reiteration of what was said at Jackson Hole: the Fed will keep going until it's done, and they understand that pain is necessary to bring inflation down.
However, if the CPI cannot be lowered, it will pay more in the future.
Before discussing the market implications, I find it interesting that Powell is completely dismissing the sale of mortgage-backed securities (MBS) that are on the Fed's balance sheet.
This could lead to a low-probability, high-impact event: It would "help" the Fed further weaken the housing market, but it could also cause surprises in the market.
Speaking of the market, let's look at bonds first.
Real yields are largely unchanged, but Powell will be happy to note that the entire real yield curve (orange) today is well above 0% - the tightening will last longer.
This was not the case 3 months ago (yellow).
Higher real yields are not necessarily a headwind for risky assets.
But if real growth is also slowing, they converge into a line - which is what is happening now.
The tighter the Fed tightens policy, the greater the long-term damage to future economic growth.
In the simplest sense, the slope of the yield curve has once again flattened sharply.
The US 2s10s OIS curve is trading at minus 90 basis points and the further the Fed goes, the more it inverts.
We're at a very interesting juncture for longer-dated bonds where additional front-end tightening now could lead to lower long-end yields (?!), as we've seen today.
The damage to long-term nominal growth is likely to be a more relevant driver of 30-year bonds than the level of front-end interest rates.
As far as risk assets are concerned, the situation is fairly simple: if they rise, financial conditions ease, and the Fed doesn't like that.
Also, simply plotting 5y5y real rates (orange) versus the S&P 500 (blue), do you see that gap?
Even without downward revisions to earnings or assuming a larger risk premium, the long-term risk-to-reward ratio for risky assets does not appear to be very good.
My base case is that the S&P 500 will retest the 2022 lows.
So, what about precious metals?
Alternatives and interest-free forms of money tend to get downgraded when hoarded forms of dollar cash pay nominally 4%+ and possibly positive real rates: bad for gold.