Goldman warns that higher Fed rates could lead to sharp sell-off in stocks

Published Thu, Mar 9 20239:32 AM EST

A more aggressive Federal Reserve when it comes to interest rate hikes could mean trouble for stocks and other assets, according to Goldman Sachs. Fed Chairman Jerome Powell shook Wall Street this week when he said, during separate appearances on Capitol Hill, that he expects the central bank to push rates higher than previously thought. Hotter inflation data means the Fed still has work to do, Powell said in his semiannual testimony on monetary policy. Futures markets quickly priced in higher rates, with traders now expecting the Fed to approve a 0.5 percentage point move when it meets in less than two weeks, according to a CME Group estimate. While Goldman thinks it's a "close call" that the Fed is still more likely to approve a 0.25-point hike , the firm is making room now for a higher trajectory for rates. "If the Fed reaccelerates and policy tightening once again becomes front-loaded, we think yields could remain under upward pressure, risky assets could sell off more sharply, commodities could resume their declines, and the Dollar could move even higher," Goldman economist Jenny Grimberg said in a client note. Conversely, if the Fed views that it can stay in quarter-point increments, that could provide "modest relief" for risk assets, Grimberg wrote. But the firm also said it sees potential stronger-than-expected upside for economic activity later in the year, something that could push the Fed into further tightening. "The risk of a US growth reacceleration this year as the impact of last year's fiscal and monetary policy tightening fades may lead the Fed to hike even more, in our view," Grimberg said. "We think consumer spending in particular could drive such a premature reacceleration, as we see significant risk that consumption will grow at an above-potential pace in 2023." The rate-setting Federal Open Market Committee next meets March 21-22. Markets Thursday morning were pricing in a nearly 81% probability of a 50-basis point, or 0.5 percentage point, rate hike at the meeting, according to CME data. Markets also have pushed the likely peak, or terminal, rate to a range of 5.5%-5.75%, and Goldman moved its forecast to that level as well. The October fed funds futures contract implied a terminal rate of 5.665% as of Thursday morning.