On Wednesday, the Federal Open Market Committee (FOMC) announced an interest rate increase of 50 basis points, taking rates to their highest levels since 2007.
Add to that, it appears likely that the Federal Reserve will continue boosting borrowing costs in 2023, at least for part of the year, but it’s not all bad news for rate-wary investors. Earlier this week, the November reading of the Consumer Price Index (CPI) checked in at 7.1%. While that’s still high, it’s well off the higher readings seen earlier this year.
Easing inflation could allow the Fed some wiggle room in terms of dialing back the intensity of rate hikes in 2023, and that could be a boon for equities and exchange traded funds such as the Invesco QQQ Trust (QQQ) and the Invesco NASDAQ 100 ETF (QQQM).
As growth-heavy ETFs, QQQ and QQQM have been pinched this year by rising interest rates. However, the Fed doesn’t necessarily need to lower rates for QQQ and QQQM to benefit in 2023. Rather, the Invesco funds can gain from reduced interest rate volatility.
“Today, markets seem more aligned with the central bank’s intentions and we’re arguably closer to the end of the tightening cycle. If this leads to lower rates and less volatility, stocks will have an easier time building on recent gains,” according to BlackRock.
As measured by the MOVE Index, which gauges implied volatility in one-month Treasury options, bond market volatility has been steadily increasing over the course of 2022. That’s logical when considering that the Fed raised interest rates seven times and those moves were mostly well telegraphed. In part, that also explains why the growth stocks that populate ETFs such as QQQ and QQQM faltered in 2022. In other words, less rate turbulence could benefit QQQ and QQQM.
“Consistent with history, the shift in the rate regime has been associated with a miserable year for stocks. Looking back at the past 20 years, equity returns have consistently demonstrated a significant, linear relationship with both the level and change in the MOVE Index,” added BlackRock.
Fortunately for QQQ and QQQM, the MOVE Index and broader rate volatility don’t need to plunge. Slow, steady declines could do the trick.
“This may be good news for the stock market. Rate vol does not need to collapse; a grind lower may be enough to support stocks. Even if bond volatility remains elevated, the fact that we’re beginning to see the contours of a Fed pause should provide some moderation in rate volatility. To the extent that happens, this should remove a major headwind for stocks and (hopefully) set up investors for a better 2023,” concluded BlackRock.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.
