Wealth managers react to yesterday's more hawkish stance by the Fed to tackle persistent rising prices and put the boosters on winding up asset purchasing.

Acknowledging that inflation is running hot and is more than just transitory, the US Federal Reserve accelerated its measures to soak up dollars printed during its quantitative easing program, signaling that interest rates will rise three times in the next year. It is to start winding up its bond purchasing in January by $30 billion a month.

The US central bank has acted at a time when inflation figures have risen, sparking worries that prices' pressures are not just temporary but are in danger of becoming entrenched. US producer price inflation for November rose at an annual rate of 9.6 per cent – the highest for the series dating back to 2010. Unadjusted consumer price inflation rose 6.8 per cent in November; some individual consumer price components rose even faster. 

A decade of massive money printing by central banks around the world since the 2008 financial crisis, and continued during the COVID-19 pandemic, has begun to cause price rises. Supply-chain disruptions, encouraging a spike in energy costs – arguably also caused by anti-fossil fuel energy policies – have also fanned inflationary fires.

Markets rose on the news seeing it as a more aggressive measure for bringing inflation under control and recognizing that current supply and demand pressures need a policy address.

The Fed is speeding up the reversal of QE, or "tapering" program. Tapering asset purchases by $30 billion a month from the current $15 billion amount allows the Federal Reserve Open Market Committee to wind up QE in March rather than June next year.

"Chair Powell essentially pre-announced this intension in his testimony to the Senate Banking Committee in late-November, so this development was widely anticipated and largely priced-in going into today’s gathering," Fiera Capital's portfolio manager for global asset allocation, Candice Bangsund, said.

The move "gives the Fed flexibility with their next step in removing accommodation, which is liftoff with rate hikes," Janus Henderson's global bond portfolio manager, Jason England, said. "The newly-released dot plots for December showed increased rate hikes for 2022 (0.9 per cent) and 2023 (1.6 per cent) with a longer run terminal rate still at 2.5 per cent."

England noted that this was a reflection of rate hikes being pulled forward but not an increase in the amount of hikes.

"Chair Powell will try to walk back some of these expected hikes in his press conference, emphasizing that the projections are individual participants’ views and do not represent the FOMC view," he said. Regardless, it puts "pressure on the front-end of the US Treasury curve leading to more flattening, with the trajectory of front-end rates higher."

Although Wednesday's economic projections were revised down from September, the Fed said it still expects a healthy rebound of 5.5 per cent growth in the US this year and 4 per cent growth for 2022.

But inflation remains a worry.

“Price pressures may well ease next year, but inflation will settle at a level uncomfortably high for the Fed. This is transitory plus," Seema Shah, chief strategist at Principal Global Investors, said.

The next big question for markets is "can the US economy digest this pace of hikes without ending up with a stomach ache?" Shah said.

Six hikes over a two-year period may look overwhelming, she said, but compared with previous cycles, namely those between 2004 and 2006 when the Fed made 17 consecutive hikes, her firm is "tentatively confident" that the US economy can handle it. "Not only that, but US inflation needs it."

Inflation currently stands at 4.1 per cent and is likely to keep rising, with the Fed forecasting it reaching 4.4 per cent this year, leveling back to 2.7 per cent next year, meanwhile unemployment is forecast to fall further next year to 3.5 per cent.

John Leiper, chief investment officer at Titan Asset Management, cautioned that the US cannot go it alone. "Co-ordinated global monetary policy easing, in response to the pandemic, requires co-ordinated retrenchment. Without it we could see a massive rally in the US dollar, placing a severe burden on dollar debtors globally, undermining the economic recovery. Interestingly, that’s also what we are seeing in the US Treasury curve which continues to flatten,” he said.

On tapering that was widely anticipated, macro strategist for global fixed income at Goldman Sachs AM, Gurpreet Gill, said that the firm "sees both hawkish and dovish elements in the changed dot plot policy rate projection. The median dot shows three rate hikes in 2022, a significant upgrade from 0.5 in September, however, the cumulative number of rate hikes through to 2024 is lower than expected. In addition, forward guidance on rate hikes still requires labor market conditions to be consistent with ‘maximum employment’."

“Overall, today’s meeting outcome was on the hawkish side of the spectrum, skewing risks toward rate lift-off sooner than previously anticipated. Developments on the supply side of the economy will be key to monitor as a rise in labor force participation could lead to renewed focus on a still-large employment gap relative to its pre-pandemic level,” Gill said.

Charles Hepworth, investment director, GAM Investments: “With no change as yet on interest rates this was as expected. What probably wasn’t quite so expected was the outlook for next year of their rate projections – the Fed dot plot saw a majority looking for three hikes next year with two even looking for four hikes, so on balance slightly more hawkish than the market had priced in although the clear caveat is that interest rate policy will be firmly tied to the concept of maximum employment.”

“That’s their justifiable ‘get-out’ excuse if the variants of concern in coronavirus still cause issues into next year. Basically, they are appearing to tilt more hawkish, finally accepting that inflation is far from transient (in fact all references to the word transient were removed) whilst still displaying an air of ambivalent optionality that things could change still yet.  A typically ambiguous enough Fed meeting that hasn’t seemed to spook the equity bulls – the US economy is growing enough to be successfully weaned off QE stimulus and then take modest rate rises in its stride. That’s the hope from the Fed but the flattening in the US yield curve however paints a slightly different story,” Hepworth said.