From my days as a newspaper reporter, I’ve learned to recognize when a little-noticed story is actually a big deal. These news nuggets can provide an early glimpse of a significant trend.

I’ve just experienced one of those “aha!” moments. Hence my topic for today.

I came upon a speech given Thursday by St. Louis Federal Reserve President James Bullard to the CFA Society of St. Louis. Buried beneath the headlines about dysfunction in Congress and carnage in Ukraine, the speech got scant media coverage. But Bullard’s words provide insights into how you should position your portfolio as 2023 gets underway.

I was taken aback by Bullard’s remarks. Bullard is infamous for his hawkish predilection, but he asserted at the event that interest rates are getting closer to a sufficiently high level to curb inflation, suggesting that the Fed may soon declare that its mission in fighting inflation is accomplished.

“In part due to front-loaded Fed policy during 2022, market-based measures of inflation expectations are now relatively low,” Bullard said. “According to standard macroeconomic theories, inflation expectations are a key determinant of actual inflation.”

He added: “It now appears that the policy rate will move into the sufficiently restrictive zone during 2023…A natural forecast is that the pace of quarterly growth will now moderate and unemployment will rise to return to its longer-run level.”

The upshot: A typically hawkish Fed official who serves on the policy-making Federal Open Market Committee (FOMC) is now envisioning disinflationary conditions in 2023.

As Bullard put it: “During 2023, actual inflation will likely follow inflation expectations to a lower level as the real economy normalizes.”

Bullard’s commentary is seemingly at odds with his colleagues, but he could be a stalking horse for a more dovish stance.

Minutes of the FOMC’s December 13-14 meeting, released Wednesday, revealed that policymakers last month reiterated their vow to tame inflation. The minutes stated:

“Participants generally observed that a restrictive policy stance would need to be maintained until the incoming data provided confidence that inflation was on a sustained downward path to 2%, which was likely to take some time. In view of the persistent and unacceptably high level of inflation, several participants commented that historical experience cautioned against prematurely loosening monetary policy.”

At its December meeting, the FOMC announced a rate hike of 0.50% (50 basis points). The target range for the benchmark federal funds rate is 4.25% to 4.50%, the highest in 15 years. The effective fed funds rate currently hovers at 4.10% (see chart).

The FOMC minutes were interpreted by Wall Street as hawkish and a portent of more tightening to come.

Reading the entrails…

When trying to interpret the intentions of the U.S. central bank, I’m often reminded of the ancient Romans.

The Romans were a superstitious and pagan people, seeing portents in a wide variety of objects, both inanimate and living. Notably, they believed the future could be told from animal remains. The Romans were easily frightened or encouraged by the slightest omens. The same goes for modern-day Wall Street.

WATCH THIS VIDEO: A Look at 2022, With an Eye on 2023

Investors avidly parse the utterances of Fed officials, which are usually cryptic. However, I was struck by the bluntness of Bullard’s remarks. He wasn’t vague; he didn’t equivocate. I don’t need to read the entrails of a dead rabbit to determine that we stand a good chance of witnessing an easing of monetary policy in the near future.

Investors are struggling to digest the contradictory data on the economy and monetary policy.

On Friday, the Bureau of Labor Statistics (BLS) reported that total nonfarm payroll employment increased by 223,000 in December, and the unemployment rate last month fell to 3.5%. Economists had expected 203,000 new jobs and an unemployment rate of 3.7%.

Jobs growth remains hotter than the Fed would like. And yet, U.S. stocks jumped on the BLS report, largely because on a monthly basis, wages grew at a slower-than-expected pace, increasing 0.3% versus an estimate of 0.4%.

The main U.S. stock market indices closed sharply higher Friday, as follows:

• DJIA: +2.13%
• S&P 500: +2.28%
• NASDAQ: +2.56%
• Russell 2000: +2.26%

Essentially, Wall Street is heartened that American workers are getting smaller raises, because it helps the fight against inflation.

In the coming months, economic growth could gather steam as inflation continues to decline and the Fed perhaps eases up on tightening. Under this positive scenario, more cyclical sectors should outperform.

As the Fed’s Bullard has suggested, disinflationary forces are starting to outweigh inflationary ones. We’ll get greater clarity when the December 2022 consumer price index (CPI) report is released on January 12.

Editor’s Note: For guidance in these uncertain times, our analysts have compiled a special report of seven macro predictions for 2023. The product of painstaking research, our report steers you toward quality, under-the-radar picks in a range of sectors. To download your free copy, click here.

John Persinos is the editorial director of Investing Daily.

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