Brrrr is officially Rrrrb
The Fed's highly anticipated (and priced in) 50bps rate hike is just half the story: a just as important announcement today came in the form of the Fed's "Plans for Reducing the Size of the Federal Reserve's Balance Sheet" in which the Fed announced that it is officially launching Quantitative Tightening: according to the Fed, the Fed will start with cap reductions to the tune of $30BN for TSYs and $17.5BN for MBS on June 1 (so not an immediate start, a move seen perhaps as dovish) growing to $60BN for TSYs and $35BN for MBS after three months.
Just as notably, there was once again no mention of actively selling securities, which again may be viewed as dovish by some.
From the announcement:
Consistent with the Principles for Reducing the Size of the Federal Reserve's Balance Sheet that were issued in January 2022, all Committee participants agreed to the following plans for significantly reducing the Federal Reserve's securities holdings.
- The Committee intends to reduce the Federal Reserve's securities holdings over time in a predictable manner primarily by adjusting the amounts reinvested of principal payments received from securities held in the System Open Market Account (SOMA). Beginning on June 1, principal payments from securities held in the SOMA will be reinvested to the extent that they exceed monthly caps.
- For Treasury securities, the cap will initially be set at $30 billion per month and after three months will increase to $60 billion per month. The decline in holdings of Treasury securities under this monthly cap will include Treasury coupon securities and, to the extent that coupon maturities are less than the monthly cap, Treasury bills.
- For agency debt and agency mortgage-backed securities, the cap will initially be set at $17.5 billion per month and after three months will increase to $35 billion per month.
- Over time, the Committee intends to maintain securities holdings in amounts needed to implement monetary policy efficiently and effectively in its ample reserves regime.
- To ensure a smooth transition, the Committee intends to slow and then stop the decline in the size of the balance sheet when reserve balances are somewhat above the level it judges to be consistent with ample reserves.
- Once balance sheet runoff has ceased, reserve balances will likely continue to decline for a time, reflecting growth in other Federal Reserve liabilities, until the Committee judges that reserve balances are at an ample level.
- Thereafter, the Committee will manage securities holdings as needed to maintain ample reserves over time.
- The Committee is prepared to adjust any of the details of its approach to reducing the size of the balance sheet in light of economic and financial developments.
Assuming it does not change, the Fed's QT plan means the balance sheet will shrink by $522.5 billion by year-end (three months at $47.5 billion followed by four months at $95 billion). Here some note that it's interesting there was no gradual step-up over the initial three months, at which point we see a near-doubling in the pace in September.
Bloomberg Intelligence's rate strategist Ira Jersey says the May FOMC meeting left the market with nearly exactly what it was expecting.
"We thought they’d start runoff at $20 billion for Treasuries and $10 billion for mortgages, so the $30 billion and $17.5 billion was a bit more than we anticipated, but we don’t see any major market reaction from this difference."
TL/DR: Rrrrb.... The only question now is how long before everything breaks and Rrrrb becomes Brrrr again...