Federal Reserve Chairman Jerome Powell's comment that the central bank could speed up the taper of its bond-buying program slammed stocks. It also highlights that the end of easy money policy is one of the biggest concerns for investors. The Fed said at its November meeting that it would begin reducing its purchases of Treasurys and mortgage-backed securities by $15 billion a month and that it planned to conclude its program in mid-2022. But Powell said on Tuesday that he expects the Fed to discuss increasing the pace of the reductions at the central bank's December meeting. For the market, if the Fed accelerates the end of the bond-buying program, the central bank would be positioned to move sooner to raise interest rates from near zero. That sent stocks lower, while Treasury yields at the shorter end of the curve moved higher. Bond yields move opposite price. The 2-year Treasury yield, which reflects Fed policy, climbed to 0.52%. Stocks were already lower Tuesday on concerns that the existing vaccines will be less effective against the omicron variant of Covid, following a Financial Times report quoting Moderna's chief executive officer about the challenge of the highly mutated strain. 'A good time to retire' the word 'transitory' Powell spoke before a Senate panel Tuesday morning. He also said inflation is more persistent than the Fed originally believed and that "it's probably a good time to retire" the word "transitory." "They're realizing they've been dead wrong about inflation. They've been dead wrong about transitory. All their PhDs and their sophisticated models failed them," said Peter Boockvar, chief investment officer at Bleakley Global Advisors. Boockvar said traders in the fed funds futures market Tuesday were betting on a higher chance of an interest rate hike as early as next May. Those expectations had faded after the initial reports of the omicron variant spooked markets this past Friday. He said the odds were about 50% for a May hike, up from 40% Monday but still below last week's level. The virus remains a wildcard for the Fed, so it is not certain the central bank will decide to speed up tapering and move more quickly to raise interest rates. But it is still moving toward tighter policy. "We're clearly going from an incredibly loose period of monetary policy to tighter monetary policy," said Liz Ann Sonders, chief investment strategist for Charles Schwab. "That tends to bring more volatility and weakness in the market." Sonders made her comments in a telephone interview with CNBC that took place before Powell spoke. "If they speed up the pace of tapering, and in turn, you saw the market move back to pricing in more rate hikes that could be a volatility driver for the market," she said. Sonders said the market would do better if the Fed raises interest rates a few times and then stops or moves slowly to raise rates. If the central bank moves quickly, it would be problematic for stocks. "It's the fast tightening cycles that are more toxic for the equity market. We're not going to know definitively what the cycle is going to look like until we're in it," said Sonders. Sam Stovall, chief investment strategist at CFRA, said Powell's statement could be similar to former Fed Chairman Ben Bernanke's comments in 2013 that led to the so-called "taper tantrum." Stovall said after Bernanke's comment, the S & P 500 was down less than 6% at its low. The index was down for less than a month and was 17% higher at the end of the calendar year. "I think we're coming out from an overbought situation," he said, noting December could be positive after November's decline. Preparing for volatility Sonders said her biggest concern for the market is a misstep by the Fed. "I think the potential catalyst for the market on the downside is Fed policy, a policy mistake," she added. She said she is recommending investors look for high quality individual stocks rather than just play sectors, following a year of tumultuous sector rotations. Gilbert Garcia, managing partner with Garcia Hamilton Associates, said he is recommending investors look for quality in corporate bonds. "We think this is a time to lighten up on your credit and go up in quality," he said, noting the 1-year return of BBB-rated corporate debt has been 7.5%. BBB bonds are on the lowest rung of investment grade. "The market has been very complacent. The market has been reaching for low quality, whether it's BBB or high yield and in our view, the best of those areas is behind them, and it's time to lighten up in front of a significant widening," said Garcia. The spread — or the difference in the yields — between high-yield bonds and Treasurys — have been relatively tight but have widened out over the past three weeks. "Going up in quality is a good thing and overall reducing credit is a good thing," Garcia said. "Even though high quality will do better than low quality, high quality is going to leak as well." The iShares iBoxx $ High Yield Corporate Bond ETF was slightly lower Tuesday, while the iShares iBoxx $ Investment Grade Corporate Bond ETF was slightly higher. Sonders said one sector she is recommending is health care, and she is negative on utilities. She said investors should look for companies with certain qualities, like solid balance sheets, strong cash flows, and positive earnings revisions. Sonders said there are divergences within some sectors. For instance, the more growth-oriented stocks in energy had done better, while the slower growing names in tech were performing better than others. However, Boockvar warns that stocks may not respond well to the end of the asset purchase program, or quantitative easing. He noted that the market tumbled when the Fed ended its prior quantitative easing program back in 2013. "With valuations where they are, with credit spreads as tight as they are, there's not much room for error. I'm not really worried about the variant or Covid," said Boockvar. "To me, the biggest risk has been the Fed's response, the central bank's response to inflation and that tightening cycles always create a bumpy road for asset prices," he added.
A trader works on the floor of the New York Stock Exchange (NYSE) in New York, Sept. 20, 2021.
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