Fed's Powell sparks 1,000-point rout in Dow.  Here's what investors should do.

Now might be the time to consider hiding in short-term government bonds or corporate bonds and other defensive parts of the stock market.

On Friday, Federal Reserve Chairman Jerome Powell spoke of preparedness to inflict “some pain” on households and businesses in an unusually blunt speech in Jackson Hole that hinted at a 1970s-style inflation failure unless the central bank manages to rein in the sharp rise in prices that is driving near four-decade highs.

Read: Fed’s Powell says cutting inflation will hurt households and businesses in Jackson Hole speech

Powell’s hawkish stance has prompted strategists to look for the best possible moves investors can make, which could include Treasuries, energy and financial stocks and emerging market assets.

The Fed chairman’s willingness to essentially dismantle parts of the US economy to curb inflation “clearly benefits the front end” of the Treasury market, where yields are moving higher on expectations of a Fed rate hike. said Daniel Tenenghauser, head of market strategy for BNY Mellon in New York.

In his opinion, the yield on 2-year government bonds
TMUBMUSD02Y,
3.384%

hit its highest level since June 14 on Friday, at 3.391%, after Powell’s speech – reaching a level last seen when the S&P 500 officially entered a bear market.

Investors may consider playing the front end of the credit markets, such as commercial paper and leveraged loans, which are floating-rate instruments — all of which benefit from “the clearest direction in the markets right now,” Tenenghauser said by phone. He also sees demand for Latin American currencies and stocks, given that central banks in that region are further along in their Fed rate hike cycles and inflation is already starting to ease through countries like Brazil.

Fed’s battle cry

Powell’s speech for a moment recalled that of Mario Draghi “do what you must” rallying cry a decade ago, when he pledged as then president of the European Central Bank to preserve the euro during a full-scale sovereign debt crisis in his region.

Attention now turns to next Friday’s nonfarm payrolls report for August, which economists expect will show a 325,000 job gain after July an unexpectedly red-hot 528,000 reads. Any wage gain above 250,000 in August would add to the Fed’s case for further aggressive rate hikes, and even a 150,000 gain would be enough to keep rate hikes going overall, economists and investors said.

The labor market remains “out of balance,” in Powell’s words, with demand for workers outstripping supply. The August jobs data will offer a glimpse of how uncertain it could still be, which would bolster the Fed’s No. 1 goal of reducing inflation to 2%. Meanwhile, continued interest rate hikes risk tipping the U.S. economy into recession and weakening the labor market, while narrowing the time Fed officials may have to act aggressively, some say.

“It’s a really delicate balance and they’re working right now because the labor market is strong and it’s pretty clear that they have to push as hard as they can” when it comes to higher interest rates, said Brendan Murphy, head of North America global fixed income for Insight Investment, which manages $881 billion in assets.

“All else being equal, a strong labor market means they have to push harder given the context of higher wages,” Murphy said by phone. “If the labor market starts to deteriorate, then the two parts of the Fed’s mandate will be at odds, and it will be more difficult to hike aggressively if the labor market weakens.”

Insight Investment has been underestimating duration in U.S. and other developed-market bonds for some time, he said. The London-based firm also takes less exposure to interest rates, staying in deals with a flatter yield curve and selectively outperforming European inflation markets, particularly in Germany.

For Ben Emmons, managing director of global macro strategy at Medley Global Advisors in New York, the best combination of plays that investors could take in response to Powell’s speech in Jackson Hole is “to be offensive in materials/energy /banks/EM picks and dividend defenses/low volume stocks (think healthcare)/dollar continuation.”

“Preliminary Signs”

The depth of the Fed’s commitment to maintain its anti-inflation campaign sank on Friday: Dow industrials
DJIA,
-3.03%

sold 1,008.38 points for its biggest decline since May, leaving it tied with the S&P 500
SPX,
-3.37%

and the Nasdaq Composite
comp,
-3.94%
,
weekly breastfeeding losses. The Treasury yield curve inverted deeper to minus 41.4 basis points as the 2-year yield rose to nearly 3.4% and the 10-year yield
TMUBMUSD10Y,
3.042%

was little changed at 3.03%.

For now, both the inflation and employment sides of the Fed’s dual mandate “point to tighter policy,” according to Capital Economics senior U.S. economist Michael Pearce. However, there are “preliminary signs” that the U.S. labor market is starting to weaken, such as an increase in jobless claims from three and four months ago, he wrote in an email to MarketWatch. Policymakers “want to see the labor market soften to help reduce wage growth to levels that are more consistent with the 2% inflation target, but not so much as to generate a deep recession.”

With the unemployment rate at 3.5% as of July, one of the lowest levels since the late 1960s, Fed officials still appear to have plenty of room to move forward in their battle against inflation. In fact, Powell said the central bank’s “primary” goal is to get inflation back to its 2 percent target, and that policymakers will stick to that task until it’s done. In addition, he said they will use their tools “violently” to achieve this, and failure to restore price stability will cause more pain.

Front load hikes

The idea that it might be “wise” for policymakers to preempt rate hikes while they still can seems to be what motivates Fed officials like Neil Kashkari of the Minneapolis Federal Reserve and James Bullard of the St. Louis Federal Reserve , according to Derek Tang, an economist at Monetary Policy Analytics in Washington.

In Thursday, Bullard told CNBC that with the strong labor market, “it seems like a good time to get in the right neighborhood for the funds rate.” Kashkari, a former dove who is now one of the Fed’s top hawks, said two days earlier that the central bank should press ahead with tighter policy until inflation is clearly on the way down.

Luke Tilley, Philadelphia-based chief economist at Wilmington Trust Investment Advisors, said the next nonfarm payrolls report could be “high or low” and it still won’t be the main factor behind Fed officials’ decision on the size of the rate hike. the interest rate hikes.

What really matters to the Federal Reserve is whether the labor market shows signs of easing from its current dire conditions, Tilley said by phone. “The Fed will be perfectly fine with strong job growth as long as it means less pressure on wages and what they want is not to have such a mismatch between supply and demand. Hiring isn’t the big deal, it’s the fact that there are so many job openings for people. What they really want to see is some combination of weaker labor demand, fewer vacancies, higher labor force participation and less pressure on wages.

Next week

Friday’s August jobs report is the highlight of next week’s data. No major data was released on Monday. Tuesday features June’s S&P Case-Shiller home price index, August’s consumer confidence index, July data on job openings plus exits and a speech by New York Fed President John Williams.

On Wednesday Loretta Mester of the Cleveland Federal Reserve and Rafael Bostick of the Atlanta Federal Reserve speak; also released is the Chicago Manufacturing Purchasing Managers’ Index. The next day sees the release of weekly initial jobless claims, the S&P Global PMI for US manufacturing, the ISM manufacturing index and July construction spending data, along with more remarks from Bostic. Factory orders and a revision of capital equipment orders were released on Friday, July.

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