Fed’s Fight Against Inflation: Investor Sentiment and Market Outlook for 2023

Wall Street investors are increasingly wary of the Federal Reserve’s fight to bring down inflation, as evidenced by the recent January jobs report, showing strong growth and robust retail sales. This has shifted sentiment among economists, who have revised their economic growth forecasts upward and their monetary policy expectations to the hawkish end.[0]

The Federal Reserve has signaled that more interest rate hikes will be needed to combat inflation, which is still well above its long-term target of 2%.[1] Combined with the Fed’s ongoing balance sheet reduction of $100 billion per month, investors are facing a difficult question: At what point will the Fed stop raising interest rates that hamper economic growth but get inflation back to normal levels?[1]

Fear of missing out (FOMO) has made a comeback as investors have begrudgingly gotten on board with the Fed’s current policy.[2] January’s strong economic data and retail sales jumping 3% have given the Fed the reasons it needs to keep interest rates higher for longer.[3]

However, a comprehensive look at different investor sentiment data shows that while there’s a FOMO trade brewing in the stock market, excessive optimism has yet to be seen.[2] JPMorgan’s Marko Kolanovic warned that markets are overpricing recent good news on inflation and are complacent of risks.[4] Morgan Stanley Wealth Management investment chief Lisa Shalett also warned that Fed policy is going to pull stocks lower.[4]

DataTrek Research cofounder Nicholas Colas pointed out that the New York Fed’s Recession Probabilities model shows the odds of a recession in the next year are at 57%.[4] While the Treasury yield curve is forecasting that the Fed will reduce interest rates before the end of 2023, we think that the Fed has little to gain by catering to investor hopes before inflation is vanquished.[5]

Do you think the January CPI report impacts your investment outlook for 2023?[4] Send me a tweet (@philrosenn) or an email (prosen@insider.com) to get in[4]

0. “Why stocks are up despite the risk of tighter monetary policy” TKer by Sam Ro, 17 Feb. 2023, https://www.tker.co/p/stock-market-supported-by-earnings-growth

1. “The stock market is flipped upside down as traders defy Fed, chase risk” Markets Insider, 18 Feb. 2023, https://markets.businessinsider.com/news/stocks/stock-market-trends-flipped-upside-down-investors-defy-fed-2023-2

2. “Investors in a Bind as Risk Appetite Slams Into a Resolute Fed” Yahoo! Voices, 19 Feb. 2023, https://www.yahoo.com/now/investors-bind-risk-appetite-slams-143922081.html

3. “Markets Not Toeing the Fed’s Line – Coronado Times” Coronado Times Newspaper, 18 Feb. 2023, https://coronadotimes.com/news/2023/02/18/markets-not-toeing-the-feds-line/

4. “Wall Street giants say it’s time to ditch stocks ahead of a recession” Business Insider, 15 Feb. 2023, https://www.businessinsider.com/wall-street-morgan-stanely-kolanovic-stocks-markets-banks-jpmorgan-investing-2023-2

5. “Dimensional, Dynasty and eToro on mixed economic signals” Financial Planning, 15 Feb. 2023, https://www.financial-planning.com/news/dimensional-dynasty-and-etoro-on-mixed-economic-signals