The Federal Reserve's minutes clearly show a preference towards tapering. The Fed is looking to taper its purchases of bonds this year. The US central bank has said that the economy has reached its inflation goal of 2 percent and is witnessing an improvement in job growth as well. The US Fed made a further hawkish statement, it said that the economy is seeing upside risks to inflation and even if it is transitory, it may stay high longer than anticipated.

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The Fed minutes also emphasised on elevated valuations in several asset classes, which they fear can threaten financial stability. Those are the hawkish noises.

There were also some dovish noises. The Fed has said that they will start tapering, provided that the economic situation evolves as anticipated, so there is that proviso as well. Also, there has been uncertainty due to the high spread of the Delta variant. But the most important dovish statement is that nobody should make a link between tapering and rate hikes as it is only lowering of asset purchases, and there is no mechanical link of that and the rate hike.

Julien Lafargue, CFA, Director, Chief Market Strategist at Barclays Private Bank, in an interview to CNBC-TV18’s Latha Venkatesh, gave his perspective on the Fed’s minutes.

He said, “We feel that the focus is slightly different. The interpretation varies depending on what each market is looking at. I think the equity market is still looking very strong on the back of the earnings season. Still very accommodative central bank policies, as you mentioned. Yes, there will be tapering, but no rate hike on the horizon at least for maybe another 12 months. While the fixed income market seems to be looking at a loss of economic momentum that we have seen, retail sales, but also the fact that you have this delta variant spreading quite significantly in many parts of the world, in the US, in particular. So the bond market is looking at it as, we have passed peak growth, and the road going forward is likely to be bumpier, the growth rate is going to slow quite significantly as we head into 2022.”

On Fed’s tapering, Lafargue said, “We do think they are going to make an announcement before the end of the year. Jackson Hole is probably a step in that direction with a formal announcement most likely in September, when you get updated, they couldn't really forecast. The tapering should start maybe in December or early January. But to be honest, I don't think at this point in time, because the Fed has been so clear that tapering is being discussed, and that is coming, it is coming up soon, I don't think any shift by a month or two would make a big difference. The bar for the Fed not to taper is actually very high at the moment.”

On risk rally, he said, “We do believe risk rally is intact with two caveats. The first one is the type of returns that we have experienced in the past 12 months are unlikely to be repeated in the next 12 months. So, expect lower returns and also expect higher volatility. You were going to remove some liquidity; in equities it is still going to be plentiful. But the second derivative, the fact that the rate of liquidity being injected into the market is coming down, that will leave air pockets and that will lead to higher volatility just like the one we have seen over the past couple of days.”

On US dollar, Lafargue said, “The dollar has been supported by this risk of sentiment and people looking for safe haven in the context of loss of economic momentum. We don't necessarily see a tone of further upside for the dollar at this point. It is probably going to be more range-bound and honestly higher dollar has been a headwind for emerging markets. So if we do see dollar stabilising, we think gradually flow could come back to emerging markets, which have had a quite a difficult 2020 and 2021 so far.”

Also Read:

Market optimistic about Fed taper but dollar could be indicating risk-off: Bank Julius Baer

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(Edited by : Dipika)

First Published:Aug 20, 2021 2:26 PM IST