It’s decision day for the Federal Reserve — a day that hasn’t given stock-market bulls much to cheer since Jerome Powell took over as chairman in 2018.
The S&P 500 index SPX, >+0.30% has declined on nine of the last 10 final meeting days of the rate-setting Federal Open Market Committee, “and those 10 days also happen to coincide with the entire tenure of current FOMC chair Jerome Powell,” noted Paul Hickey, co-founder of Bespoke Investment Group, in a note.
Indeed, the only positive finish came just this past January, when the Fed unexpectedly pivoted away from its policy of steadily rising rates to move to the sidelines. The S&P 500 ended 1.6% higher on Jan. 30.
Stock-market gains or losses on meeting day probably aren’t a terribly useful metric for judging the performance of the Fed, but the preponderance of decision-day declines is attracting attention among investors, particularly given the anticipation surrounding Wednesday’s decision. The Fed isn’t expected to cut, but investors are looking for policy makers to set the stage for an easing as early as July.
While acknowledging the small sample size relative to Powell’s three predecessors — Janet Yellen, Ben Bernanke and Alan Greenspan — Hickey termed the S&P 500’s performance on decision days under Powell’s reign as “abysmal” on both an absolute and relative basis, with the S&P 500 averaging a decline of 0.3% versus average gains of between 0.16% under Yellen to 0.53% under Bernanke.
And while the S&P has seen positive Fed-day returns only 10% of the time under Powell, it saw gains more than half the time under all three of his predecessors (see chart below).
Deutsche Bank macro strategist Alan Ruskin has also been looking at Fed-day performance, and sounded skeptical that Powell would break the pattern on given investors’ high hopes for a soundly dovish message, as reflected by interest-rate futures showing a 1-in-5 chance for a cut on Wednesday and a 100% probability of a quarter-point cut in July.
Equities and other risky assets “seem nicely set up such that there is plenty of scope for the Fed to once again disappoint the market, and make it 10 out of 11 FOMC days of disappointment,” he said, in a note.
Indeed, the Fed’s biggest dilemma is “how to maintain maximum policy ‘optionality’ for July without having risky assets reprice sharply negative,” he said. Ruskin elaborated on the dilemma in his note:
One of the more popular reasons given for why the Fed should err dovish is that U.S. financial conditions are so easy only because they are predicated on dovish Fed expectations. The Fed is no doubt particularly cognizant of this, so Powell will at worst try to let the market down easily, leaving an impression that rate cuts are coming. But the Fed will also rely on a view that IF the growth data in the future does not warrant a rate cut, then the stronger growth this implies will ultimately provide protection for risky assets, smoothing any market adjustment to a less dovish Fed view.
Nonetheless, the extent to which risk has easing built in, and the latitude that soft inflation gives scope for accommodation, will keep the Fed signaling that the bias in policy has shifted strongly in favour of easing.
The focus will be on the dot plot, which maps out each individual policy maker’s rate expectations, he said. “If there are more than 5 dots expecting a cut, the mainstream voters will also have been shown to have been tugged into the 2019 easing camp,” he said. “Less than 4 dots for easing in 2019 would be more hawkish than expected, and add to the risk-negative response.”
Overall, stock-market bulls might not have that much to complain about so far. The S&P 500 remains around 1.2% below its all-time high set in April, while the Dow Jones Industrial Average DJIA, >+0.15% remains around 1.6% away from its record set last fall.
As for Fed-day performance, Hickey advised: “Look on the bright side, there’s lots of room for improvement!”