Fed chief's rate talk puts stocks in bind – USA TODAY

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Jerome Powell testified before Congress Tuesday, his first public appearance as chairman of Federal Reserve. Powell delivered the semi-annual monetary policy report before the House Financial Services Committee, expressing a positive outlook. (Feb. 27) AP

The rate hike scare of 2018 is still spooking stock investors.

U.S. stocks earlier this month suffered their first 10% drop in two years. The plunge was sparked by fears the economy was gaining too much steam and inflation was rising enough to push long-term borrowing costs up and prompt the Federal Reserve to raise interest rates more aggressively this year. But stocks mounted a huge rebound, clawing back nearly three-quarters of its price correction, after initial Fed fears briefly abated.

Rate fears resurfaced Tuesday, however. The broad S&P 500 stock index headed back down, falling 1.3%, on the same fear: the potential for more coming rate hikes from the Fed than expected.

The new Fed chair Jerome Powell caused the latest market tantrum. In his Congressional testimony on Tuesday, Powell didn’t come right out and say Fed policymakers might have to raise rates four times this year (one more than it signaled in December). But he didn’t rule it out, either.

For the most part, in his prepared remarks Powell struck all the right notes. He said the economic outlook “remains strong,” but reiterated the Fed’s plan of “gradual” rate hikes, which follows the market-friendly playbook under departed Fed chair Janet Yellen.

But Powell set off alarm bells when he told lawmakers in a question-and-answer session that he would not “prejudge” whether fellow Fed members will raise their median forecast of three hikes in 2018 when it meets again in March.

Those words, which left the door open to a fourth hike, seemed to unnerve some investors. The Dow Jones industrial average, which rallied more than 900 points the prior three sessions, fell 299 points, or 1.2%.

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Higher borrowing costs and interest rates create a headwind for stocks, as they tend to slow economic growth and make bonds a more attractive investment alternative to stocks.

The tug of war between rising rates and stronger GDP and corporate earnings boosted by tax cuts and government spending will continue to cause a bumpy ride in markets, says Nick Sargen, chief economist and senior investment advisor at investment firm Fort Washington.

“I believe market volatility will remain elevated because the risk is a stronger economy and enlarged budget deficits will cause bond yields to rise, even if inflation stays under the Fed’s target of 2%,” Sargen said.

Still, Sargen says the market will receive support from solid earnings growth.

Not everyone on Wall Street said Powell’s testimony, which stressed the Fed’s preference to raise rates in a deliberate manner, made them upgrade their rate hike forecasts.

“He didn’t spook me,” says Wayne Wicker, chief investment officer at ICMA-RC, a Washington, D.C.-based investment firm. “Powell is telegraphing the fact that the economy is pretty strong; and that’s a pretty positive thing. But also that if inflation starts to rise the Fed needs to be sensitive to that. That should not be new news to anyone.”

After Tuesday’s market close, the odds of a fourth rate hike this year rose to 25.2% in futures markets, according to CME Group.

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