Stocks Drop As QT Begins

By Nicholas Jasinski |  Wednesday, June 1 The Next Phase. Quantitative tightening is here. The Federal Reserve officially began shrinking its nearly $9 trillion balance sheet today, by allowing maturing bonds to roll off without replacing them. All else being equal, that process will reduce liquidity by removing a huge buyer for U.S. Treasuries and mortgage-backed securities—weighing on prices and lifting yields. That ripples through to other markets, and causes tighter financial conditions throughout the economy. It's also a vibe shift from the Fed—alongside its ongoing interest-rate increases—from full-tilt easing to eventually restricting the economy and financial conditions. That matters for market sentiment, which can become a self-fulfilling prophecy. Here's Jonas Goltermann, senior markets economist at Capital Economics, writing this morning: One key question around balance sheet policy is how much of its impact on economies and markets is down to a “signalling effect” (i.e. what increasing or decreasing the balance sheet indicates about future interest rate policy) and how much is “mechanical” (i.e. the direct effect of asset purchases and sales on money markets and asset prices). To the extent that it is the former which matters, the bulk of the market impact of QT ought to now be in the past: the FOMC has set out a plan for how it will reduce the Fed’s balance sheet aggressively over the next couple of years, which is consistent with its plan to also hike interest rates “expeditiously”. If QT is mainly about signalling, it may well be that the worst of the bond market sell-off and volatility rate expectations is already behind us. Either way, stocks sold off to mark the arrival of quantitative tightening today. The Dow Jones Industrial Average slipped 0.5%, while the S&P 500 and Nasdaq Composite both lost 0.7%. Bond prices dropped as well, as yields rose. The yield on the 10-year U.S. Treasury note rose 0.09 percentage point today, to 2.93%. Energy stocks were the only group in the S&P 500 to rise today, as oil prices continued to climb. West Texas Intermediate crude is now above $115 a barrel, up about 12% in a month and 53% since the start of 2022. The Energy Select Sector SPDR exchange-traded fund (XLE) has returned 61% this year.

 

DJIA: -0.54% to 32,813.23 S&P 500: -0.75% to 4,101.23 Nasdaq: -0.72% to 11,994.46 The Hot Stock: Salesforce.com +9.9% The Biggest Loser: Albemarle -7.8% Best Sector: Energy +1.6% Worst Sector: Financials -1.6%