The debate on whether the Federal Reserve (Fed) will ease or tighten is still an uncovered card, which investors are still trying to digest, following Powell’s comments, the Fed’s chairman last Tuesday. Monetary easing is a term very conversant with market participants given the fact that over the years this was one of the prime monetary tools used by central banks to stimulate economic growth, which took place in different forms.

The term monetary easing is used to describe the activity whereby central banks use a variety of tools to stimulate the economy in periods of recession or slow economic growth. For instance, a very familiar monetary tool on the easing front, are interest rate cuts. Indeed, the latter is currently an ongoing debate in the US The question is whether the Fed will cut its rates, stay put or possibly hike.

A rate cut in the US Federal Reserve’s July meeting is being fully priced-in by investors, an idea which led markets to trade positively over the past days, given the consensus that a rate cut is supportive for economic growth. In our view, the issue to be considered by investors is whether in reality it makes economic sense for the Fed to opt for a rate cut, given the current economic data which continues to remain somewhat robust. Unemployment is at record lows, while inflation, despite being below the Fed’s target, is still close to the 2 per cent level. Thus, in reality on such economic data would a rate cut be justified?

This is one of the reasons why the Fed’s chairman last Tuesday was vocal on the fact that markets might be demanding more of an easing stance by cutting rates in a more aggressive manner, contrary to the Fed’s view. Indeed, his comments were unpleasantly digested by markets, with treasury yields trending upwards following the remarkable compression experienced over the past days.

We are of the view that markets might be pressuring the Fed to move aggressively in terms of easing. However, in reality economic data might not justify that path. Thus any possibly unaligned move by the Fed might exuberate market volatility.

A very interesting Global Fund Manager survey conducted by BOFA showed that many fund managers increased their perception that monetary policy is becoming more impotent over time. Thus, this is a clear message from professionals that a twist in events by the Fed would not automatically imply a positive outcome.

Undoubtedly, the Fed’s last minutes clearly indicated that the case has strengthened for a rate cut. However, this does not imply that a rate cut is definite. We believe that this weekend’s G-20 summit will in one way or another influence and dictate the Fed’s next move. A positive outcome might push the Fed to stay put, while the contrary applies. We are of the view that a wait and see approach will be the way forward for the Fed. What is certain is that rate cuts based on market pressures, rather than on economic sense, might pitch towards more negative consequences.

Disclaimer:

This article was issued by Jordan Portelli, investment manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt .The information, views and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri & Co. Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.