The most crucial week has arrived for the US markets. The week kicks off with US inflation data on Tuesday, followed by the US interest rate decision on Wednesday, the ECB interest rate decision on Thursday, and the Bank of Japan's interest rate decision on Friday.
According to economists surveyed by Reuters, the US Federal Reserve will not raise interest rates for the first time in over a year at its meeting on June 13-14. However, a significant minority still expects at least one more rate hike from the Fed, citing the resilience of the economy.
Federal Reserve Chairman Jerome Powell signaled that the central bank might soon pause its aggressive tightening cycle, which has raised interest rates by a historic 500 basis points at each meeting since March 2022, to assess the impact of this aggressive tightening.
More than 90% of economists, or 78 out of 86 respondents in a survey conducted from June 2 to June 7, said they expected the policy-setting Federal Open Market Committee to leave the federal funds rate between 5.00% and 5.25% at the end of next week's meeting. The remaining eight members are expecting a 25 basis point increase.
Similarly, the CME FEDWATCH Tool heavily suggests that the expectation is for interest rates to remain unchanged.
Since the Fed's last policy meeting in May, strong economic data and comments from several officials have prompted markets to price in a rate hike at the July 25-26 meeting or earlier. This shift in market expectations has even led to the US dollar reaching its highest level since March.
Recent public statements from Fed officials have emphasized that monetary policy is currently restrictive, but they argue that core inflation remains elevated. Therefore, the Fed has a bias towards further rate hikes, but for at least the June meeting, they may adopt a more patient stance in monitoring the lagged effects of past rate moves.
Assuming interest rates are held steady, the real question is whether the Fed sees the current situation as a pause with more potential rate increases to come or as the peak of this rate cycle.
During the June meeting, the Fed will present its Summary of Economic Projections (SEP), which includes policymakers' forecasts for where rates will be at the end of 2023. In March, most Fed participants expected rates to end the year at the current levels. While the Fed emphasizes that the SEP does not represent a firm forecast, noting how the projections have evolved compared to March will be one of the significant takeaways, alongside the interest rate decision.
Is the Direction Bullish?
With growing expectations that the Fed is nearing the end of its rate hike path, the rise of technology stocks has pushed the S&P 500 further into bull market territory.
The technology-heavy Nasdaq Composite also climbed, driven by expectations that the increase in interest rates will stop and a 4.1% increase in Tesla shares.
Tesla shares rose for 11 consecutive days after the company signed an agreement allowing General Motors customers to use its electric vehicle charging system.
As a sign of the prevailing calm in the markets, the VIX volatility index dropped to 13, its lowest level since the start of the coronavirus pandemic panic three years ago.
The Fear & Greed Index also stood at 77, indicating "extreme greed."
On the other hand, amidst the frenzy surrounding artificial intelligence trends, Goldman Sachs analysts have started researching how the AI boom will impact the S&P 500 index in the future.
Goldman used the Dividend Discount Model (DDM), a useful tool for calculating the fair value of a stock (or the entire index). In the model, you take the expected dividends and divide them by the difference between the desired return and the estimated dividend growth rate. Then, assuming that AI will become as widespread as smartphones within the next decade and increase productivity by 1.5% and real GDP growth by 1.1%, we include AI in the equation.
The result shows that the S&P 500's fair value would be approximately 9% higher than today. Playing with different assumptions, Goldman analysts predict that the fair value could be anywhere from 5% to 14% higher than current prices.
