The Fed fails to sway markets as snowflake steals the show

The big news today should be the dovish tilt of the Federal Reserve’s latest meeting, and the confirmation that it will employ a new policy tool, Average Inflation Targeting (AIT), in its effort to help the US economy to recover from the Covid-19 pandemic. However, instead, the financial press is leading with news about Snowflake Inc’s IPO earlier today, where its’s share price doubled and the loss-making cloud computing company, with profits of $265mn dollars, is now worth a cool $90bn, the equivalent of three quarters of IBM’s market value. Below we will look at the outcome of this Fed meeting in more detail, and also question whether the Fed’s latest step into more dovish territory is linked to Snowflake’s astonishing debut.

The Fed: what do you need to know 

There were three key messages from this week’s Fed meeting: 

1, the Fed will now target an average rate of inflation, also known as AIT, of a little over 2% over time, rather concentrate on a specific 2% target. This means that the Fed will allow inflation to run above 2% for some time, to ensure that the average rate of inflation for the US, calculated over a number of years, is 2%. Core inflation hasn’t been above 2% in the US since March, the average inflation rate for the last 7 months is 1.6%, inflation could run above 2% for some time before the Fed will raise interest rates. 

2, ZIRP was confirmed for the long term. The AIT means that rates won’t be moving anywhere, especially since the Fed does not expect the inflation rate to rise above 2% until 2023, thus we could be looking at another 3 years of 0% interest rates in the US, at least. 

3, The Fed released its latest economic projections at this meeting and, aside from weak levels of inflation, the news wasn’t that bad. It expects the decline in growth to be smaller for 2020 than it expected back in June, with a decline of 3.7% now expected, better than the 6.5% decline expected before. Growth was revised down for 2021 to 4% from 5%, but this is still a decent pace of economic growth. For 2022 growth is expected at 3%, with 2.5% in 2023. All in, this suggests that the US economy will outpace its pre-pandemic rate of growth, as the new economic order, and the growth in tech in particular, boosts the US economy in the years to come. The Fed’s expectations for the unemployment rate was also lowered to 7.6% for this year, down from 9.3%. This suggests that the Fed is looking for a further improvement in the trend of unemployment this year, it is currently at 8.4%. 

What’s next for the dollar?

The post-Fed meeting market reaction may have taken some by surprise. While the low interest rates for longer message is a powerful one, it may not be enough to cause the dollar to sink much lower, or to boost stocks in the short term. The immediate reaction to the meeting has been muted, longer term US yields are up slightly, the US 10-year Treasury yield jumped 4 basis points to 0.701% on the back of this meeting, which may not sound like a lot, but because  ten-year yields fell so sharply earlier this year, every basis point higher counts. US stock markets were mostly lower after the meeting, the Nasdaq was down 1.25%, while the Dow Jones was little changed, and the S&P 500 was down 0.5%. The dollar index was holding steady above 93.10. 

The dollar reaction deserves its own paragraph. Currencies usually tank when a central bank confirms that interest rates will remain at historically low levels for the long term, right? This assertion is both right and wrong. The fact that the dollar did not sell off is also a sign that the market is optimistic that the Fed’s monetary policies will foster a strong recovery for the US economy, as the Fed’s economic estimates suggest. Other countries who are not being as aggressive as the Fed, think the ECB and to some extent the BOE, may find that they have to play catch up and loosen policy further down the line. We believe that this Fed meeting could trigger a deeper decline in EUR/USD, after it failed to capitalise on the Fed meeting on Wednesday. A break of $1.1800 could trigger a move back towards $1.1770 initially, before opening the way to $1.1710, in the short term. If EUR/USD rises above $1.1850 in the next few hours, then we will park our weak euro idea for another time. 

Can Snowflake thank the Fed for its stratospheric rise? 

Tech is hot, there can be no denying that, but one reason why tech stocks have surged this year and companies like Snowflake can double on their debut and see their valuation triple in 7 months is because of the Fed. When interest rates are at zero percent and are likely to stay that way for at least 2.5 years, then traders are “forced” into investing in stocks to try and earn yield, and even when stocks don’t earn yield, extraordinary stock price growth is enough. To be blunt, there will be a lot of people who will be buying into Snowflake’s IPO because they want to own hot, tech stocks that they think will continue to rise. 

While we doubt that Snowflake will repeat its performance on Wednesday, and it may even experience a pullback later this week along with the overall Nasdaq 100 index, there are compelling reasons why Snowflake Inc could buck the recent fate of some other tech stocks:

·      It’s a pure play on the cloud computing industry, and there are not many pure cloud computing stocks to invest in.  

·      Although it is currently loss making, its revenues and profitability is increasing unlike many other tech “unicorns”.  

·      While retail investors’ love of tech stocks is well known, legendary investor Warren Buffet invested more than $500mn into Snowflake’s IPO. This is surely a sign that the next phase of the tech stock rally will be driven by institutional investors, and for some tech stocks there could be further gains to come.