Almost time to taper? What the latest Fed meeting minutes reveal

by Abraham Robison, Russell Investments

On the latest edition of Market Week in Review, Senior Quantitative Research Analyst Abraham Robison and Julie Zhang, head of North America sales enablement and analytics, discussed the recently released minutes from the U.S. Federal Reserve (the Fed)’s July policy meeting. They also reviewed the latest U.S. consumer confidence and retail sales data, and assessed the economic outlook for China over the next 12 months.

Fed meeting minutes suggest tapering could start by end of year

Minutes from the Fed’s July 27-28 policy meeting, released Aug. 18, indicated a willingness among Federal Open Market Committee members to start tapering asset purchases by the end of the year, Robison said. “The Fed has been buying $120 billion in Treasuries and mortgage-backed securities since the pandemic began, but has increasingly indicated it’s likely to begin paring back on these purchases soon as the economic recovery strengthens,” he stated.

The reaction to the meeting minutes in U.S. bond markets was fairly muted, Robison said, with yields staying relatively flat. “The lack of reaction was likely because the bond market has already priced in the start of tapering later this year—the main question now is which month it’ll begin in,” he explained. In Robison’s opinion, an announcement on tapering is most likely at either the central bank’s early November or mid-December meeting.

He added that the release of the minutes caused a bit more volatility in equity markets, with the benchmark S&P 500® Index declining modestly the week of Aug. 16, as of market close on Aug. 19. Some of the choppiness can probably also be attributed to the rise in COVID-19 infections as the delta variant sweeps across the U.S., Robison noted. “COVID fears have become a bit more pervasive in markets lately, with new cases rising to levels near those seen late last year,” he explained. However, deaths remain significantly lower than last winter’s peak due to the effectiveness of COVID-19 vaccines, Robison pointed out.

U.S. consumer-sentiment indicator plunges. Is concern warranted?

Turning to the latest economic data, Robison noted that the University of Michigan’s consumer sentiment index for August fell sharply, dropping to a preliminary reading of 70.2—down from a level of 81.2 in July. While this marked the steepest month-over-month drop in consumer confidence since the start of the pandemic, Robison cautioned viewers from reading too much into things. “In all honesty, this index has been a bit off for a while,” he said, explaining that similar surveys have logged much more modest drops in sentiment.

U.S. retail sales, meanwhile, slowed by roughly 1% during July, according to the latest numbers from the Commerce Department, Robison said. “Importantly, this was largely in-line with consensus forecasts, and  the overall U.S. consumer still looks to be in good shape due to fiscal stimulus, the ongoing economic recovery and the build-up of savings amid the pandemic,” he concluded.

Key risks to China’s growth outlook

Shifting to China, Robison said that over a 12-month time horizon, the outlook for the world’s second-largest economy looks robust, although there are some key risks worth watching. The first of these pertains to the spread of the delta variant throughout the country. “Given China’s zero-tolerance approach to COVID-19 outbreaks, we could see the imposition of containment measures that could impact growth a bit,” he said. However, the latest numbers appear to show that the recent surge in infections is waning, Robison stated.

Another risk to the outlook is the decline in the nation’s credit impulse, he said, noting that it’s occurred faster than anticipated. As credit growth slows, Robison believes more easing is likely from China’s central bank—in the form of another cut in the reserve requirement ratio for banks. “At this stage, a reduction in interest rates doesn’t seem to be necessary, but I wouldn’t rule it out,” he remarked, adding that more fiscal support is also on the way in the form of local-government bond issuance.

Robison concluded by adding that China’s ongoing regulatory clampdown is also another risk worth watching, with further regulation possible as the government appears to be zeroing in on inequality. Overall, however, he believes that a robust period of growth over the next 12 months still appears likely for the country.