Investors are heading into the coming week’s two-day Federal Reserve meeting facing a wide band of uncertainty around the path ahead for the U.S. economy, inflation, and interest rates — which has the potential to keep stocks rangebound, make them more volatile, or both through the end of the year.
An anticipated spike in inflation from trade wars has yet to materialize, as demonstrated by mild data on consumer- and producer prices for May. Tensions in the Middle East sparked by Israel’s attack on Iran’s nuclear program early Friday caused oil futures to soar as much as 14% overnight in the U.S. before paring back the same day, and raised concerns in the bond market about the potential impact on overall prices.
The question now is whether an inflation spike is still on the way, how Fed officials might react to this, and whether they’ll need to keep rates at current levels for longer or cut borrowing costs as soon as September to prevent the current economic slowdown from turning into a recession.
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“Uncertainty is still the name of the game,” said Jim Baird, chief investment officer with Plante Moran Financial Advisors in Michigan. “Policy uncertainty — predominantly trade policy, which has a direct impact on what the Fed will do — has been the primary driver around the near-term outlook for the economy and the market.” A spike in oil due to the escalating Mideast conflict adds another layer of uncertainty and, if sustained, could weigh on household spending, he added.
“The economy is not out of the woods and we cannot say definitively that inflation will not be an issue in the coming months, particularly if oil prices move — and stay — higher,” Baird said via phone. For most investors, this “speaks to the need to be broadly diversified and have a plan focused on a time horizon that may span decades rather than just a few months. Trying to time the market is a fool’s errand. Make sure to have adequate cash reserves and don’t give in to the temptation to take significant action driven by fear in the face of uncertainty.”
After a steep runup in U.S. stocks since April fueled by investors’ short-term optimism over trade policies, bulls have been looking for a new catalyst to fuel a final push back into record territory for the S&P 500 SPX. But there are reasons why Federal Reserve Chairman Jerome Powell won’t likely be able to provide one on Wednesday, which could leave market participants vulnerable to disappointment.
Though Fed officials are expected to update their economic and interest-rate projections, Powell is not likely to say much of anything that’s new about the U.S. outlook. Strategists at TD Securities said they expect him to be “noncommittal” and to repeat his view that the Fed remains well-positioned to wait for greater clarity before adjusting rates. The team at TD also sees a risk that policymakers will pencil in just one interest-rate cut for 2025, down from the two reductions which officials anticipated in March.
Given continued trade uncertainty, some observers such as Mark Hackett, chief market strategist at Ohio-based financial-services company Nationwide, said that a breakthrough to record highs in the S&P 500 will likely require a new catalyst, like a rebound in earnings trends. As of Friday, the index was up almost 20% since its year-to-date closing low of 4,982.77 reached on April 8. With the exception of Friday’s performance, it’s mostly traded above 6,000 since June 6, but hasn’t been able to surpass its record closing high of 6,144.15 from Feb. 19.
Read: The S&P 500 is nearly back to record highs, but investors shouldn’t get too comfortable .
Meanwhile, the Economic Policy Uncertainty Index, a preferred measure of uncertainty for investment giants like Vanguard, is at its highest level on record in the U.S. as of June, based on monthly readings. When policy uncertainty runs this high, it tends to mean that consumers will pull back on spending, businesses will cut or defer investments, and there will be less demand for labor, according to one of the co-creators of the index, Steven Davis at Stanford University’s Hoover Institution.
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