2023 bull factor includes Fed shift to tightening

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  • According to Bank of America, a Fed exit from quantitative tightening could be the next bullish factor for equities in 2023.
  • The Fed began to reduce its balance sheet by nearly $9 trillion at a rate of about $95 billion a month.
  • But central banks are “petrified by the market consequences of withdrawing liquidity,” BofA said.

A new bullish factor for the stock market could emerge in 2023 after the Federal Reserve shocked markets with aggressive interest rate hikes earlier this year, according to a Friday note from Bank of America.

While most investors pay attention to the Fed’s ongoing rate hikes, behind the scenes the central bank is shrinking its balance sheet by nearly $9 trillion via monthly cuts of $95 billion to its cash and cash equivalents. its mortgage debt.

But the move, combined with a rapid rise in interest rates, is sucking liquidity from the global market and could trigger a shift in Fed policy as we approach next year, the note said.

Indeed, central banks are “petrified by the market consequences of withdrawing liquidity,” said BofA investment strategist Michael Hartnett.

Fear that deeper declines are materializing in equity and fixed-income markets is what could ultimately trigger a shift by the Fed from quantitative tightening to quantitative “tinkering,” Hartnett said. And part of it is already happening.

The Fed is so far the only global central bank with quantitative tightening, and yet the Bank of England has already had to revert to quantitative easing and buy gilts, delaying its planned tightening measures amid the fiasco unleashed. by British Prime Minister Liz Truss ‘Tax cut plans have failed.

Meanwhile, the Bank of Japan was forced to buy bonds this week as the yen plunged to a 32-year low against the US dollar. Additionally, the European Central Bank is “considering but not yet committing to even passive quantitative tightening,” Hartnett said.

One signal investors can watch that would suggest the Fed is leaning toward a pause would be a halt in the U.S. dollar’s march to new highs, the note said.

Any pivot from the Fed, whether in the form of a pause in further interest rate hikes, or a reduction or pause in its monthly balance sheet cuts, could be viewed positively by investors. and lead to a major turnaround, but Hartnett still sees the pain before that happens, with hopes that stocks will hit new lows soon.

That’s because there has been no capitulation among investors and their relationship with stocks, with Hartnett seeing more than $9 billion in flow into stocks over the past week.

“Still no final capitulation in stock flows,” Hartnett said. “We are bearish despite the pervasive bearish sentiment.”

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