Party time on Wall Street even as US Fed takes hawkish stance; S&P 500, Nasdaq hit record highs

The stock market shrugged off the hawkish US Fed commentary and clocked smart gains.

Despite a positive surprise in the inflation data released on June 12, the US Fed policy statement after the two-day FOMC meeting maintained a hawkish stance, defying market expectations. The US Fed kept the key policy rate unchanged at 5.25-5.5 percent, as widely anticipated. However, the updated dot plot indicated only one interest rate cut in 2024, down from three projected in March.

The stock market shrugged off the hawkish commentary and clocked smart gains, with the S&P 500 topping 5,400 for the first time in its history. While Treasury yields gave up their slide after the central bank's decision, Fed swaps pointed to rate cuts in both November and December. The dollar fell against all emerging market currencies.

As the Federal Reserve meeting approached, the market was bracing for a dovish surprise, especially after the May US CPI came in cooler than expected. The US 2-year Treasury yield plunged to 4.67 percent, down 16 basis points for the day, just before the Fed policy announcement.

Also read: US Fed's new ‘Dot Plot' forecast signals only one rate cut by end of 2024

At the policy press conference, Fed Chairman Jerome Powell largely stuck to the script, stating that inflation data has "eased somewhat," but the Committee needs to see "more good data" to "bolster" confidence that inflation is indeed returning towards target before cutting rates. Powell reiterated the Fed's preparedness to respond if the labor market were to "unexpectedly" weaken, and repeated that rates will be held "where they are for as long as needed" to bring inflation back to target. He also noted that "there is an argument that payrolls may be a bit overstated."

Despite Powell's statements, money markets continue to price around a 70 percent chance that the FOMC will deliver two rate cuts this year, driven by the cooler-than-expected May CPI figures released earlier on June 12. This gives more credence to real-time data than to the dated Fed view.

Experts said that the overall policy outlook hasn't changed much following the June FOMC meeting. "Despite an increase in both this year's and next year's core PCE (private consumption expenditure) predictions, the Committee clearly still feels strongly that policy should start to normalise, even though the dots were updated in a more hawkish manner. This suggests that rather than aiming for an absolute return to 2 percent inflation, policymakers are focusing on an inflation range with 2 percent as the bottom," said Ritesh Jain of Pinetree Macro. Regardless, the FOMC's next step is expected to be a rate cut, and given the committee's overall inclination, this suggests a looser policy. The question now isn't whether these cuts will occur, but rather when.

Market sentiment also strongly echoes this view, although both equity and bond markets gave up some of their early gains after the hawkish policy stance dampened the bullish sentiment created by the lower-than-expected inflation numbers. The US 2-year bond yield had also given up half of its gain but still closed lower by nine basis points over the previous day. Similarly, broad equity markets retraced and gave up most of their opening gains.

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