The Fed could use a stock market correction

Booming equities are making it harder for Powell to cut interest rates

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Good morning! This is a huge week for economic updates.

  • Wednesday: May CPI expected to clock in at 3.4% year-over-year, and the Fed’s decision on interest rates is due

  • Thursday: May PPI expected to clock in at a 2.5% increase, above the 2.2% gain in April

  • Friday: University of Michigan releases the latest Consumer Sentiment survey

As for today, we’re unpacking how the booming stock market has complicated the Fed’s next move.

The Fed vs. bull market

Inflation isn’t the only thing the Fed is fighting right now.

Jerome Powell speaks at length about price gains and the labor market, but he’s yet to say much about the ongoing stock market rally — even though it very well could be the biggest obstacle to interest rate cuts at this point.

The Fed prefers limiting market volatility, so policymakers aren’t inclined to comment on equities.

But ballooning share prices indeed seem to be keeping rates high. 

The S&P 500 has climbed roughly 13% this year, while the tech-heavy Nasdaq is up by more than 16%.

That strength has kept investors’ portfolios well in the green and fueled spending, which in turn has boosted economic growth.

If the Fed were to cut rates, stocks and spending would only increase, as easing policy would be jet fuel for markets. 

Meanwhile, a recent working paper from the National Bureau of Economic Research outlined how wealth determines consumption and savings habits, and how those muddy the effects of policy. 

One key takeaway: As stock portfolios and retirement accounts soar — as they are this year — the potency of interest rates diminishes. 

David Rosenberg, chief economist for Rosenberg Research, commented on the paper in a note to clients Friday:

“The crux of the argument is that in a bull market, monetary policy lags are longer because, in this environment, higher rates actually decrease demand for savings, working against the usual valuation effects that central banks rely on to influence current consumption.”

This so-called “wealth effect,” which also includes the massive gains in home values, has helped stave off a recession.

To that point, US household wealth reached a record high $160 trillion in the first quarter, the Federal Reserve reported last week.

For now, almost no one expects the Fed to cut interest rates anytime soon, especially after Friday’s hot jobs report.

Goldman Sachs sees the first move lower coming in September at the earliest. Most Wall Street firms agree.

That said, even if inflation continues to cool and economic growth stalls as the Fed hopes, a booming bull market could keep Powell’s hands tied. 

“The stock market is looking like the main obstacle for the Fed to ease,” Rosenberg said. “And it will play a big role in determining the pace.”

How have your spending and saving habits changed in 2024 compared to 2023? Hit reply to this email or let me know on X @philrosenn.

*At a glance:

*Data as of Sunday 6 p.m. ET

Elsewhere:

🐱Roaring Kitty’s GameStop livestream was a hoot. On Friday, the famed meme-stock trader had more than 650,000 people tune in on YouTube. He wore sunglasses, drank beer, and laid out why he remains bullish as ever on GME. (WSJ)

📈The May jobs report was hotter than expected. The latest print effectively nixed the chances for a July rate cut from the Fed. Employers added 272,000 nonfarm payrolls in May, above the forecasted 180,000. Unemployment climbed to 4.0%, up from 3.9%. (Barron’s)

💰Nvidia’s 10-for-1 stock split begins trading Monday. The stock split signals a vote of confidence from management that there’s still more upside ahead, even after a 151% gain to start the year. Analysts say the move could bring near-term volatility, though the bull case remains intact. (Yahoo Finance)

Rapid-fire:

  • Apple will unveil its AI strategy at WWDC today, and some analysts say it’s the most pivotal moment since the debut of the first iPhone (Dow Jones)

  • US stock funds climbed 4% in May, bringing year-to-date gains to 7.8% (WSJ)

  • Plans for a Texas stock exchange have been met with skepticism across the trading industry (FT)

  • US existing home sales have plunged to levels last seen in the 1970s (ResiClub)

  • Millions of young men have dropped out of the labor force, and that could weigh on Social Security and the economy for years to come (Business Insider)

Last thing:

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