June 21, 2022

iCapital Market Pulse: Portfolio do’s and don’ts as the Fed hits the brakes

June 17, 2022 | iCapital

After a hawkish Fed meeting, investors are rightly worried about what rate hikes may mean for growth, and what that might mean for portfolio positioning. We still see a sustained growth slowdown–but not outright recession–as the most likely outcome, and recommend staying with a defensive portfolio stance, potentially integrating alternatives, for now at least.

The U.S. Federal Reserve’s June meeting was hawkish, but not a hawkish surprise for the markets, as an aggressive path of interest rate increases was already priced in.
 
By moving aggressively the Fed is restoring some credibility—with inflation this high, rates are far too low and need to be raised quickly. Especially while the economy is still strong and there is a window in which it can act decisively.
 
Importantly, the Fed seems to have updated the markets on its reaction function—its focus is on fighting headline Consumer Price Index (CPI) inflation (rather than just focusing on the core, which is declining) because this measure seems to be driving consumer expectations. That is why it is important it acts firmly to slow inflation because higher expectations could become entrenched. If inflation (headline or not) comes in hotter than expected, expect more decisive hikes.
 
All of this is not a consolation for the markets per se, but it at least goes some way towards restoring the Fed’s credibility and highlights its resolve in fighting inflation.

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