Fed officials said the inflation fight isn't over and they don't expect to cut interest rates soon.
Their words were a "reality check" and "bucket of cold water" for investors, Christopher Smart said.
The top strategist expects weak growth, stubborn inflation, and rates to peak around 5% next year.
Federal Reserve officials have dashed investors' hopes of an early end to the war on inflation, and a prompt pivot from hiking interest rates to cutting them. Instead of rebounding, the US economy will shrink and face stubborn price increases next year, Christopher Smart has said.
Two of the Fed's regional presidents, John Williams and James Bullard, warned on Monday that the inflation threat hasn't faded. The US central bank may have to lift rates higher and keep them there throughout next year to curb soaring prices, they said.
"This latest round of statements you've seen is a bucket of cold water," Smart told Bloomberg on Tuesday. "It is a reality check," Barings' chief global strategist continued, noting investors have repeatedly shrugged off the Fed's hawkish messaging in recent months.
Inflation has surged to 40-year highs this year, spurring the Fed to hike rates from almost zero in March to around 4% today in a bid to curb rising prices. While higher rates can temper inflation by discouraging spending, borrowing, and hiring, they typically weigh on growth and can plunge economies into recession.
"The battle to get inflation back down again is going to be hard-fought," Smart said. "We're headed towards a much slower economy next year."
"Our best guess is that we're going to be in a period of stagflation for several months through maybe most of next year," he added, referring to a toxic combination of stagnant economic growth and stubbornly high inflation.
The top strategist, who previously served at the US Treasury and on the National Economic Council, predicted annualized inflation would cool from nearly 8% in October to around 3.5% by the end of 2023 — above the Fed's 2% target.
Smart also suggested rates could peak around 5% in the first half of next year, and the Fed might begin loosening its monetary policy next winter or in early 2024.
"That's going to do a lot to alleviate those worst-case fears of inflation being back to where we were in the '70s," he said. Yet weaker corporate earnings next year will likely remain a headwind for the stock market, he added.
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