Prepare portfolios for decisive Fed action in H2 15

The way the Fed will manage the different instruments will have an impact on asset classes. Societe Generale anticipates a mix of rate hikes, lower "dots" and balance sheet reduction. That would lead to higher volatility, hurt equity markets, trigger a flattening of the US curve (although potentially less pronounced than in traditional tightening periods), and limited USD appreciation.

• Fed action (1): rates hikes. The Fed cannot delay monetary policy normalisation forever, but the weak economic growth through Q1 has raised doubts about a summer hike. Economic activity is likely to rebound and the labour market to continue to improve, says Societe Generale. 

• Fed action (2): dots drifting lower. The Fed is likely to continue to lower its "dots", bringing them closer to the market, added Societe Generale. That would reduce the risk of an overreaction on the USD in particular. Also, lower dots would be a positive event for all risky asset classes and would limit the rise in yields especially at the short end of the curve.

• Fed action (3): quantitative easing (QE) unwinding. The management of the reduction of the Fed's balance sheet will be a key driver of asset prices. This will come as a reduction of the pace (tapering) of reinvestments of paper that has matured. Analysts see a case for fewer hikes (one in September, then a six-month pause) and more balance sheet normalisation, as the Fed adapts to less robust than expected data, a sharp appreciation of the USD, and concerns about financial stability.