Equity Market Resilience

MACRO FRAME

The Federal Reserve raised the federal funds target range by 25 basis points to 3.75%–4.00%, its first increase since 2023, and signaled that another hike is likely before year-end. Warsh’s central message was that underlying inflation has not improved enough to justify patience.

STOCK INDEX FUTURES

Equity index futures are higher as Wall Street buys the dip following the post-FOMC selloff yesterday. The dot plot showed 16 of the 18 officials who submitted rate projections are expecting at least one increase this year; two favored holding rates at the new level. The larger surprise was the persistence of the projected tightening path. In June, officials had penciled in one 2026 hike followed by a quarter-point cut in 2027. The September median now implies another hike this year and no reduction in 2027, before rates begin declining in 2028. Still, the market is well positioned to undergo a renewed hiking cycle, equity multiples have compressed as discount rates have risen, but stronger profit expectations, including outside the largest AI companies, have so far offset much of the valuation pressure. The latest Bank of America fund-manager survey showed the highest share of respondents expecting double-digit earnings growth over the next 12 months since August 2021, while 55% expected a “no landing” global economy. A net 25% of managers in the survey judged global monetary policy too stimulative, the highest share since September 2022, but a disorderly rise in bond yields replaced an AI bubble as the leading tail risk, cited by 33% of respondents. In other words, investors broadly accept the case for tighter policy but are increasingly concerned about the market consequences if yields adjust too quickly. For now, one or two Fed hikes appear tolerable for equities if growth and earnings remain firm. The more adverse scenario would require repeated tightening that materially raises financing costs, slows corporate capital spending or interrupts the AI infrastructure buildout; in that case, weaker earnings expectations would compound the existing contraction in valuation multiples.

Watch point: Despite tech volatility, the earnings backdrop suggests bullishness, despite the advent of a new hiking cycle.

CURRENCIES

US DOLLAR: The USD index is holding its break above the 100 level at 100.13. Support is coming less from the actual hike and more from the Fed’s hawkish guidance. Officials projected another increase this year and no easing in 2027, while Chair Warsh emphasized that inflation has not improved sufficiently and that financial conditions remain supportive of growth. Money markets are fully priced for another hike by year-end. For the dollar, downside near-term risk rests upon the Bank of Japan, and how hawkish the central bank’s message is. Failure for the BOJ to outline a hiking path in-line with market expectations, in other words slower than expectations, will see the dollar move higher. However, messaging from the bank that supports a timely tightening cycle could see the dollar break below its recently achieved 100-level.

Watch point: The next move for the dollar rests on the BOJ’s decision and messaging over its potential rate path.

EURO: The euro is 0.22% higher at $1.1489, though remains well below its recent range as broad dollar strength has resulted in markets pricing a more hawkish Fed. While money markets expect the ECB to hike more than the Fed in the next 12 months, pricing in 77 bps of tightening vs. 74 bps, the difference is marginal and the renewed hawkish expectations about the Fed have moved the spread of implicit policy rate spreads in favor of the dollar. This dynamic will continue to play an outsized role in determining EUR direction.

Watch point: Broader price direction will be subject to Fed-ECB policy expectations, which has been favorable to the dollar in advent of a hawkish repricing in Fed policy expectations the near-term.

BRITISH POUND: Sterling is little changed at $1.3394, following the Bank of England’s decision to keep rates on hold. The bank did flag that inflation will rise above 4% early next year, while Governor Bailey warned that prolonged conflict in the Middle East could warrant tighter policy. The bank voted 6-3 in favor of the hold, while minutes revealed that wage-setting pressures have not yet increased. Money markets are fully priced for a hike by year-end and are pricing 76 bps of tightening by April of 2027. Still, with the BoE on hold for the time being, sterling has little of its own to lean against this week and is trading largely as a pure dollar-strength story.

JAPANESE YEN: The yen is 0.45% stronger at 155.57 yen per dollar. Speculation about fresh intervention and rising bets on a Bank of Japan hike, have strengthened the currency as of recent. The central bank’s meeting tomorrow will be closely watched for signals on the pace of its future tightening path. Failure for the bank to raise rates in a timely fashion will see the yen lose significant support, while comments of a commitment to raising policy in a timely fashion will help keep the yen near recent ranges. It has hovered around 155 in recent days as the dollar found its footing into and following the Fed decision. A Reuters poll sees the BOJ hiking to 1.25% at Friday’s meeting and to 1.75% by Q2 2027, both faster than previously expected. Failure to hike at the September meeting would renew pressure on the currency and send the yen back toward the 160 area.

Watch point: Failure to raise rates at the Bank of Japan’s September meeting could see the yen drop toward the 160 level.

AUSTRALIAN DOLLAR: The Aussie is 0.44% higher at $0.7117, rebounding from its Fed-driven losses as stronger risk appetite stemmed from oil prices falling for a second day and a global rise in equities. The RBA left its cash rate at 4.35% at its August 12 meeting, by its own account a straight hold-versus-hike debate, not a cut discussion, after June labor data showed a still-robust market (employment +76,300, unemployment 4.4%, participation up to 67.0%), consistent with a cautious, higher-for-longer stance. The RBA’s next decision isn’t until September 28–29, so AUD is essentially a dollar/risk-sentiment proxy until further data is released. Q3 inflation figures will continue to serve an outsized role in determining RBA policy and given that the September policy meeting is a month before the release, policymakers could wait until that data arrives before making any decisions.

Watch point: August’s hiring figures argue for a higher-for-longer stance, leading the focus to Q3’s inflation data.

TREASURY FUTURES

Yields moved lower across the curve; longer dated debt yields are trading closer to their pre-FOMC levels, while shorter-term yields are sharply higher. While many expected Warsh to hint at a one and done hike, Warsh’s press conference lead market participants to believe the Fed is at the beginning of a new hiking cycle. There are several takeaways to support the idea of a renewed hawkish Fed following the meeting: it saw a unanimous 12-0 vote, which has been unusual as of late, the dot-plot showed that most FOMC members expect to hike at least once more this year, Warsh framed the hike as part of the bank’s discipline and mentioned removing some accommodation to markets, and lastly that Warsh repeatedly framed the economy as stronger than expected. All else equal, these are conditions that support further tightening. The monetary policy statement supports this interpretation by dropping July’s language attributing elevated inflation partly to sector-specific supply shocks, including energy. It instead said simply that inflation remains elevated and that the rate increase would support a more timely return to the 2% target, signaling that policymakers now view inflation as broader and more persistent than an isolated supply disturbance.

The key curve question is whether the post-meeting move remains a relatively orderly flattening or develops into renewed bear steepening. Front-end weakness would mainly validate the Fed’s projected rate path; however, another sharp long-end selloff would be more problematic and would point to continued pressure from inflation risk, fiscal and corporate supply, capital competition and term premium. Those dynamics are likely to remain the key factors in shaping long-term yield direction.

Watch point: Inflation risk, fiscal and corporate supply, capital competition and term premium will be key factors in determining whether the yield curve maintains its recent flattening or falls into a bear steeping move.

Interested in more futures markets?  Explore our Market Dashboards here.