Post FOMC: Market shift from catch-down camp to short covering mode

Market

Given that the Fed pivot is the most clearly communicated rate hike cycle in modern history and will continue to be so, stocks moved higher as the market now seems convinced there will be few double paced rate hike twists in the future. That should lift some worries for equity investors about impending policy mistakes.

Investors seem ok with what is currently priced, which is a very flat FED FUNDS futures at an implied 2.50-2.75% for the Fed far into the future.

The FOMC minutes were a bit outdated anyway. Fed members have been pretty clear in their comments around 50bp hikes recently, while some have even softened the hawkish tone. So, equity traders quickly looked past the release moving from catch-down camp to short covering mode lifting stocks higher. But the S&P 500 benchmark remains well entrenched within the 3800-4100 range trade as investors stay in wait and see mode. 

At 3800, the market is pricing a fair amount of P/E de-rating plus earnings risk. At the same time, ongoing headwinds from central bank tightening, the Ukraine conflict and the China lockdown should prevent any meaningful rally beyond 4100.

Next up is US preliminary GDP, which is expected to fall from grace, but the markets know this is little more than a reset to the trend, so the weak print should not cause any hic-ups.

In terms of financial stability, several Fed members mentioned the impact of monetary tightening. But seemingly, they are more worried about the commodity market due to Russia. Indeed, the recent oil shock is the most worrying price spike of the various inflationary inputs and the biggest driver of recession risk, not rate hikes. 

Oil

Crude stocks were down below expectations which supports the tight supply bullish consensus. Oil traded higher on the day despite any change in the macro environment, suggesting market participants are positioning for a Russian embargo bounce.

 The focus in oil markets is on The EU summit taking place next week (May 30-31), at which another attempt will be made to agree on an EU-wide embargo on Russian oil. Hungary remains opposed to an agreement in its current form and insists on more time and EU financial support for making the switch away from Russian oil.

The EU agreement is a distraction, given individual member states and vital corporate buyers in Europe are already phasing out purchases of Russian oil. It may help the unity optics to have a deal agreed at an EU level. Still, whether or not this happens, there will be significantly less Russian oil flowing to Europe over the remainder of this year, which leaves the market in deficit with few immediate options to backfill that shortfall.