Rate Hikes Are Back – What Investors Can Expect
The Federal Reserve’s recent hawkish path showcases how a high-inflation, slow-growth environment presents a challenge for central bankers — hike rates too much, and you risk exacerbating unemployment. Doing nothing, or cutting rates, and inflation could spiral further. Federal Reserve Chair Jerome Powell recently acknowledged that the risks are growing around current economic conditions.
Navigating high inflation 
The recent price action suggests that investors are finding solace in the underlying strength of the U.S. economy. While the expansion may be dented, we do not believe it has been derailed.
Before Russia’s invasion of Ukraine, inflation across the world was already at multi-decade or record highs. As we face the uncertainty of war, it looks like a longer road for inflation to meaningfully moderate. The Fed expects core inflation in 2022 to round out at 4.1%, and it anticipates inflation to stay above 2% through 2024.
In the United States, while market-based measures of long-term inflation expectations have jumped as crude prices have rocketed, it’s worth noting this is largely due to expectations for inflation to be more elevated over the next year or two, rather than permanently. Consumers seem to agree with this sentiment: Expectations for inflation over the next three years are notably lower versus one year ahead.
On growth
Price pressures, higher interest rates, and uncertainty around commodities and supply chains are all conspiring to pressure growth. Since the start of the year, economists have downgraded their growth expectations for the year — with the most acute pain expected in Europe.
Growth looks likely to slow from here, but it’s critical to remember that the backdrop is still one that is fundamentally healthy. Across the United States and Europe, consumers are on a strong footing. U.S. household wealth is 13.5% higher than pre-pandemic levels, debt servicing costs remain low and the labor market grows tighter by the month. Similarly for corporates, margins are still near record highs, earnings revisions are trending higher and plans to invest in capex and return value to shareholders have increased.
Cautiously optimistic
Calibrating the path forward is wrought with uncertainty, but the resulting volatility also brings new opportunities. Higher inflation and interest rates provide a compelling case to get out of cash and consider other liquidity options and the role of bonds in your portfolio.
