Goldman Sachs says the selling won’t stop until this happens
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According to Goldman Sachs, the current market slump won’t stop unless the Federal Reserve reverses its tighter monetary policy. The firm believes that this unlikely will happen until either the economy is in recession or shows signs that it doesn’t need to continue braking the pedal. Vickie Chang from Goldman, strategist for Goldman said this in a note to clients. “This year’s story is Fed-driven. The market has continued pricing in Fed tightening while simultaneously worried that front-loaded tightening might lead to a rebound.” According to history, this type of monetary-tightening induced recession is unlikely to end unless the Fed shifts. No indication is there that the Fed will change its policy to tame surging prices at levels not seen for more than 40-years. Already this year, the central bank has increased benchmark interest rates two times and will likely approve another series of increases until inflation reaches its long-term target of 2%. Raphael Bostic of the Atlanta Fed suggested Monday that it might be possible for the Federal Open Market Committee to “pause” at September in order to observe the effect rate hikes have on inflation. But that is not the consensus view. Markets are regressing even though the tightening process is only beginning. The tech-focused Nasdaq Composite Index has entered a bear market while the S & P 500 and Dow Jones Industrial Average are hovering around that area as well . According to Goldman’s analysis, investors are searching for the capitulation point. This may take a while. “On average, monetary-policy-driven equity corrections have bottomed when the Fed has shifted towards easing, regardless of whether activity has troughed,” Chang wrote. A shift towards monetary easing provides fairly immediate relief when the cause of the correction has been identified as monetary tightening. The market trusts the possibility that activity will pick up in the future and anticipates this. The Fed-driven downturn in the market is different from those that are caused by slower business activity. Goldman examined 17 episodes similar to those of 1956, and found differences in the triggers. Fed policy is not as effective in market crashes caused by falls in manufacturing. However, when the markets respond to tighter Fed policy it usually takes at most a sign that looser policies are coming up until they reach a peak that causes a turn around. Chang explained that until the Fed shows clearer signals of slowing growth and decreasing inflation, it is not likely for markets to receive a signal. There are signs that one or the other is happening, but they’re not yet conclusive. According to Goldman economists, there is a 1 in 3 chance of a recession occurring by 2023. Chang stated that, if the inflation rate shows signs of easing in the second half of 2018, that might be sufficient to predict a Fed policy change that will provide stock relief.
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