U.S. equities tumbled lower last week with the S&P 500 logging its worst week since February following the Federal Reserve meeting on Wednesday in which the central bank indicated plans to begin the process of reducing monetary accommodation. Easy monetary policy since the onset of the pandemic has helped push market valuations to extended levels, and the prospect of tapering that support could let some of the air out. The news led to a 3.5% loss for the week on the Dow, while the S&P 500 fell 1.9% and the Nasdaq was down 0.3%. Sectors that had led the market higher all year were the week's worst performers, with the financials and materials sectors each losing more than 6% and energy losing more than 5%. Commodity prices also plunged, including a 9% drop in copper and a 15% decrease in lumber prices.

There were two policy shifts of note for investors coming out of last week’s Federal Reserve meeting. First and foremost, there was a lift to rate hike expectations with the committee consensus rate forecast indicating two 0.25% rate hikes by the end of 2023 and 7 of 18 Fed officials expecting at least one rate hike next year. Back in March, the Fed was planning to leave rates near zero through 2023 unless something changed. Now, the Fed plans to hike unless something changes. The second shift was the start of the process toward tapering off the central bank’s bond purchases of Treasuries and mortgage backed securities, which are currently running at a pace of $120 billion per month. This will likely take place either late this year or early next year.

While the Fed continues to communicate expectations that the current ramp in inflation is transitory, the shift in stance acknowledges the risk that inflation may continue to overshoot expectations in the short-term before temporary factors can abate. The Consumer and Producer Price Indexes rose 5.0% and 6.6% year-over-year in May (or 3.8% and 4.8% excluding food and energy) as demand continues to soar and labor supply remains tight. However, there are also signals that support the Fed’s view that the spike is transitory as commodity prices have moderated a bit in recent weeks and price increases remain low in critical areas like healthcare, food, rent, and clothing overall.

The week ahead will be a big one for retailers with Amazon's annual shopping extravaganza kicking off the week. Big box retailers like Target, Walmart and Best Buy will also be running competing deals in an effort to hold market share. Another area of focus this week will be on the $1.2 trillion bipartisan infrastructure proposal backed by 21 moderate senators. The bill, which would include $579 billion in new funding with the rest reallocated from other sources, seeks to bridge the partisan gap between lawmakers, though Democrats could still seek to go it alone and push a larger bill through reconciliation. With the economy in high gear and corporate profits ramping, market participants will be closely watching the shifting policy landscape, both from the Federal government and the central bank. We will continue to keep you apprised of these shifts and the implications for financial markets.