- Jerome Powell reiterated a hawkish stance and the potential for higher-for-longer rates.
- Markets are now pricing in a larger likelihood of a half-point rate hike in March.
Fed Chairman Jerome Powell opened the door to ramping up the pace of policy tightening again, and stocks will be forced to recalibrate, according to DataTrek Research.
A rate hike of 50 basis points is now seen as likely at this month's Fed meeting, after a 25-basis-point increase in February.
"[S]ince 1990 the Fed has never stutter-stepped at the end of a rate hiking cycle," DataTrek co-founder Nicholas Colas wrote in a note Wednesday. "Powell's testimony today says the Fed is contemplating that now, reaccelerating from 25 to 50 basis point increases."
Before Powell's testimony on Capitol Hill Tuesday, traders put the odds of a 50-basis-point move this month at roughly 30%. On Wednesday, that skyrocketed to 78%, CME's FedWatch Tool shows.
The potential return to a steeper rate hike signals that the last move was a policy mistake, Colas said, and it's forcing markets to adopt a more cautious outlook for future adjustments.
The prospect of more aggressive rate hikes comes as the stock market has been pulled in opposite directions between strong corporate earnings and Fed hawkishness. But that balance looks to tip against stocks, DataTrek said.
"The tug of war in equity markets between stable corporate earnings and uncertain Fed monetary policy continues," Colas said.
Futures are putting the highest odds — about 37% — that the fed funds rate will finish 2023 at 5.50%-5.75%, which suggests that the market isn't expecting any rate cuts this year.
Eventually, Colas said stocks will have to reflect a higher-rate environment.
"The S&P 500 trades for 17.5x Wall Street analysts' expected 12-month future earnings, which we continue to believe is simply too high given the uncertainty around rate policy/economic growth," he said. "We therefore remain cautious on US equities."
Meanwhile, top economist Mohamed El-Erian said the risk of a stock market crash has shot higher now that Powell has signaled bigger rate hikes.
The Fed chief's comments fueled volatility that "could risk both economic well-being and financial stability," El-Erian wrote in a Bloomberg column.