March was a mixed bag for investors. US stocks and most of the developed world rallied from mid-month lows to finish higher while emerging market stocks came under pressure. In fixed income markets, interest rates continued to rise along with inflation expectations. Bond prices fell as a result. Taken overall, this was the best month of the year so far. It’s been a tough year.
The big news for the month was that the Federal Reserve raised its Fed Funds Rate by 0.25%. Stock market investors largely bought the news, catching many by surprise. Perhaps even more surprising was that the rally continued as Fed officials increased their hawkish tone, even talking about the potential need to go above their estimate of a neutral interest rate. As we write this, the market is expecting nearly 14 rate hikes and the Fed to ultimately raise their discount rate to over 3%. Although, we think a hiking cycle could help reduce inflation by softening demand, we also believe that as they proceed there should be some help at some point on the supply chain front.
Supply chain issues have remained longer than many observers, including us, initially thought. The lingering pandemic and China’s continuation of a zero-COVID policy has not helped supply chain matters. Russia’s recent invasion of Ukraine is also an exogenous, extenuating factor that has impacted food and energy prices. To the extent these matters resolve themselves, hopefully, sooner rather than later, the upward pressure on prices could begin to ease some.
While we expect to see some high inflation readings in the months ahead, the Fed appears credible in their stated intention to whip inflation. This is corroborated by a recent NY Fed survey, in which consumers had expectations for higher inflation in the short-term but lowered expectations over the medium-term.
In our opinion, anchored expectations are the key to preventing wage-inflation spirals, so that part of the Fed survey is relatively good news. The other good news is that capitalism tends to be pretty good at dealing with supply chain and commodity scarcity issues over the long run. The bad news is that getting to the long run involves living through an open-ended short run.