Fed: ‘All eyes’ continue to be on inflation ahead of December meeting, strategist says

Providence Financial & Insurance Services President Anthony Saccaro and Quant Insight Head of Analytics Huw Roberts to discuss the macroeconomic outlook amid Fed rate hikes, inflation, and labor market impacts.

Video transcript

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- Here's the closing bell for today.

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DAVE BRIGGS: And there's your closing bell on Wall Street. Let's check out how the markets finished this day, after a rough beginning to the week. You saw the Dow finish up just barely. The S&P, really no movement all across the three major indices. If you want, the biggest loss there on the NASDAQ down 65 points.

Let's talk more about all the market action with Anthony Saccaro, Providence Financial Insurance Services President, and Huw Roberts, Quant Insight, Head of Analytics. Nice to see you both. Anthony, we'll start with you. What do you make of today's action combined with what we saw yesterday, all three indices falling more than a percent and a half?

ANTHONY SACCARO: Yeah, well, I'm glad, I'm certainly glad it didn't fall any more at this point. I mean, I think all eyes are going to continue to be on inflation at this point. The inflation numbers are starting to soften. I think it's priced in that the Federal Reserve is probably only going to raise interest rates a half a basis point. That December meeting coming up here soon. But ultimately, I'm glad that we followed up a flat day and not another negative down day on the market.

DAVE BRIGGS: And Huw, your thoughts on the Fed here?

HUW ROBERTS: Yeah, actually I just build on what Anthony just said. So we come, if you remember, from kind of a uniquely quantitative and macro perspective rather than kind of bottom up for you. And all year, our models have shown that US equities are in a strong macro regime, and it's all been about the Fed's fight against inflation and the tightening of financial conditions.

But what we're seeing now is tentative signs of a bit of a regime change for US equity markets. That a Fed will always be important. Price action yesterday was evidence of that. But there's slowly but surely signs that maybe the Fed and the policy moves are becoming slightly less important.

And to Anthony's point, it's going to be more about the real economy in 2023 and whether we are able to engineer a soft landing or whether we're going for a full hard blown recession. That's the kind of regime shift that appears to be unfolding underneath the surface on our models.

DAVE BRIGGS: And in that regard, Anthony, what do you expect to happen in the real economy in '23?

ANTHONY SACCARO: Well, I think what's happening now, is consumers are in a situation where they've got money still saved up. Savings have started to come down, but they haven't let that stop them from spending. The inflation so far hasn't had a massive impact on consumer spending. I think Cyber Monday and Black Friday were really huge successes, because people were waiting for those sales, because inflation is up. They're waiting for the deals. I think that's why the impact of the success that those two days had.

But I think what's going to happen is, eventually inflation is going to catch up with the consumers. Consumer spending is going to go down. They're going to quit spending as much as they have. Inflation is going to soften more. And the fear that I have, is that it takes the stock market with it, and that we don't have the soft landing that everyone is a little bit, everyone wants to happen. I'm a little, starting to get negative about whether that's actually possible or not. It's all consumer-based at this point.

JARED BLIKRE: Huw, looking at the performance of the Dow versus NASDAQ over the last couple of months, definite outperformance by Dow, being more weighted towards the cyclicals and value stocks. Where do you fall in the debate between the growth and value stocks, and maybe the cyclical ones as well right now?

HUW ROBERTS: Yeah, absolutely. So cyclicals at the moment, well actually, I'd take it back even further and take it to a real kind of 10,000 feet view for an asset allocator and look at stocks versus bonds. Because if you look at what the cyclical components of the equity market are telling you, they're buying into the idea that we're going to be able to get a soft landing. Metals and mines in particular, on our models, look expensive.

But if you look at the message that's coming from the bond market, and to a degree, what interest rate differentials are doing to the dollar, then bonds and FX are telling you that they're less sanguine about things. So you've got a bit of a standoff between the different asset classes at the moment.

To the growth versus value play, we've had a nice call on tech over the last couple of months. Like a lot of people know, it's been really about what real yields and the interest rate spectrum is doing. That's been, obviously, friendly for tech over the last four or five weeks. But that seems to be rolling over.

And actually, on our models, XLK, XLC, all these things, model value is flatlining, i.e. macro conditions having enjoyed a bounce and improvement since about the second week of October. The upside momentum has been lost somewhat. So we're a bit agnostic at the moment.

DAVE BRIGGS: Anthony, the fear that you referenced earlier, what might that mean for the labor market? And what might it mean for Jerome Powell? Do you think he could pause sooner than expected?

ANTHONY SACCARO: Yeah. The reality is, it's an interesting dynamic, like Huw had said, that you've got this balance between bonds and stocks at this point. As far as the labor market, you know, right now, there's 1.9 jobs available for every worker that's out there. So the unemployment rate really has to come down or go up rather. It went up a little bit to 3.7.

Where it has to go, it ranges all over the board. Some analysts are thinking 4 and 1/2%, some are thinking as high as 6 and 1/2% or 7%. I don't think it needs to get there. But the reality is, the unemployment rate is going to have to come up. I believe that we are going to enter into a recession, which is not such a bad thing. People get worried about that.

I think the biggest concern that the Fed has about the recession is the negative wealth effect that it may have on consumers, driving it into a deeper recession. I think that's a bigger concern that's not talked about. But right now, what I'm focusing on at this point, is more of something that is income-oriented. Sectors and investments that are income-oriented.

If you focus on dividends and interest, you know you can count on those. And it's also not a bad time to get into fixed income, because it's been hammered so hard over the last couple of years that you could almost use income as a capital appreciation play, which is something that you haven't seen in many decades. I think that might be a good play at this moment too for investors looking to put in new money.

JARED BLIKRE: And Huw, we've got a minute left here. I want to talk to you about the strong dollar that we've seen this year. It's backed off those levels, but bouncing off of its 200-day moving average, reflecting interest rate differentials between the US, which is promised to be higher for longer. Just wondering what you're thinking about the current currency situation and its effect on the global risk markets.

HUW ROBERTS: Yeah, so we, the beauty of our models is that we can identify the key macro drivers of any asset class. So in the case of dollar, sometimes if you look at dollar-yen, it was very much a nominal interest rate differential argument. For euro-dollar, real yields have been more important. For some other dollar crosses, it's been more about risk on, risk off.

So that's the beauty of the FX market. There's idiosyncratic stories per FX cross in the same way that a bottom up guy would look at single stocks. Right here, right now, what's interesting is that on our long-term models, that actually the dollar is falling out of the macro regime. Our ability to explain dollar price action using the macro environment has diminished somewhat.

Our short-term models, which are more tactical in nature, they are in a macro regime. And what they're showing is that actually for the tactical players, this dollar sell-off has probably gone about as far as it's going to in the near term. And actually something like euro dollar looks overextended to us.

Dollar yen looks a little bit low. And some of the other ones, Aussie dollar to a degree, as well. But mainly, the G3 euro dollar and dollar yen, it looks like dollar downside may tactically at least run its course for now.

JARED BLIKRE: All right, got to leave it there. Really appreciate your insights, everybody here. Thanks to Anthony Saccaro and Huw Roberts.