While inflation fears remain high, it is likely that we are past peak inflation and the largest interest rate increases are behind us.
The Federal Reserve (Fed) continued its aggressive battle against inflation, raising the federal funds rate another 0.75% at its July meeting – the fourth rate bump this year. We’re now in a neutral 2.25% to 2.5% range, and the central bankers are on track to raise rates to a mildly restrictive 3% to 3.5% range by the end of the year. While inflation fears remain high, it is likely that we are past peak inflation and the largest interest rate increases are behind us, explains Raymond James Chief Investment Officer Larry Adam, echoing Fed Chair Jerome Powell.
The domestic equity markets anticipated the rate change and appeared to appreciate the Fed’s firm stance. The S&P 500 climbed around 9% for the month – the highest monthly increase since November 2020. This is in contrast to the worst start to the year since 1970 that had the S&P 500 down 20% through June and the Bloomberg U.S. Aggregate Bond Index down 10%.
July’s reprieve came with declining oil prices (and the subsequent impact on inflation) and slowing economic activity – the second consecutive quarter of negative GDP growth, which helped spur the bond market as longer-term interest rates declined meaningfully.
None of this eliminates the possibility of a mild, short-lived recession, notes Chief Economist Eugenio J. Alemán, Ph.D. Investors should expect some challenging months ahead as we navigate uncertainty around global inflationary pressures coming from the continuing pandemic; Chinese lockdowns, which could constrain supply chains further; the Russia-Ukraine war and its implications on energy; as well as “noisy” data. For example, existing home sales weakened in the second quarter, but their prices are still climbing, just not at the pace they had in recent quarters. Meanwhile, new home sales declined to their pre-pandemic levels.