Market Extra: Will Fed tapering concerns derail the rising stock market? ‘Investors should look past it,’ says one strategist.

The stock market appears to be brushing off fears over inflation and the hawkish tilt from the Federal Reserve coming out of its recent policy meeting. 

“What equity investors care about is whether the Fed is ahead, behind or on the curve,” Barclays analysts said in a research report Thursday. “The Fed’s more hawkish-than-expected stance towards inflation has largely removed the threat of runaway inflation and reminded equity investors that it is on top of the situation.”

After last week’s Federal Open Market Committee meeting, Barclays moved up its expectations for the Fed to begin slowing its asset purchases to November from January. Expectations for tapering to start first, then potential rate hikes in 2023 isn’t weighing too heavily on the U.S. stock market this week, with the Nasdaq Composite

and S&P 500

indexes closing at fresh records Thursday.

“I think investors should look past it,” said Brent Schutte, chief investment strategist at Northwestern Mutual Wealth Management Co., in a phone interview Thursday. “The bias of the Fed is to remain easy.”

The S&P 500 index rose 0.6% Thursday to close at a record 4,266.49, its first since June 14. Barclays has the U.S. stock benchmark forecast to end this year even higher, at 4,400.

Under its baseline scenario in equities, Barclays anticipates a “very muted reaction” to the taper announcement it sees coming on the back of “careful communication from the Fed over the summer” and a gradually strengthening labor market, according to the report. “In this environment, equities are likely to continue to eke out positive but unexciting gains over the summer into the announcement, with relatively low volatility,” the bank’s analysts predicted.

See: ‘Nice underpinning to the market’: Buybacks may prop stock market rattled after Fed meeting

The stock market has bounced back from declines seen after the FOMC meeting last week, with Barclays analysts expecting that the rotation away from reflation trades toward more balanced, broad-market leadership will continue in U.S. equities. 

“The bull-flattening of the yield curve post-Fed has made longer duration equities more attractive again,” the analysts said. “The view that inflation will be contained lowers the requirement to hold inflation hedges such as miners, energy or banks.”

Growth stocks have been gaining ground since the Fed concluded its two-day meeting on June 16, according to FactSet data. But the Russell 1000 Value index

still remains ahead this year, with its 15.8% return, based on Thursday afternoon trading, outperforming the Russell 1000 Growth index’s

11.2% gain for 2021.

Schutte said that Northwestern Mutual clients keep inquiring about tech stocks, though he thinks cyclical trades remain the way to go as the U.S. economy will continue to strengthen. He worries about high valuations within the tech sector, and said many investors have become too comfortable with growth stocks after their outperformance during and before the pandemic. 

Exposure to sectors tied to the reflation trade are still warranted to “hedge the tail risk” of a continued rise in inflation, according to Barclays’s baseline scenario. “But also because long bond yields should rebound as investors get more comfortable with the growth outlook,” the bank’s analysts said.

Read: Treasury yields mixed following U.S. jobless claims, durable-goods, GDP reports

The long end of the yield curve could see a rise as the Fed begins to slow its monthly bond purchases, said David Norris, head of U.S. credit at TwentyFour Asset Management, in a phone interview. But a taper tantrum, as seen in 2013, is unlikely to be repeated, said Norris, as he expects the Fed will carefully avoid catching the market by surprise this time around.

Even before the FOMC meeting, market participants were expecting the Fed to begin tapering in early 2022 and finish that same year, the Barclays report shows. 

Meanwhile, company earnings may become a bigger driver of stock performance this year.

“In this more ‘mid-cycle’ equity environment, earnings fundamentals, rather than big macro/liquidity moves, are likely to drive sector performance,” the Barclays analysts said. “This will be true in the run up to, and after, the taper announcement.”

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