Fed Chair Jerome Powell just handed Wall Street a high-stakes bet: he's willing to tolerate higher inflation in the short run if it means keeping the labor market afloat.
- DIA ETF hit new all-time highs after Powell’s speech. Check the chart here.
And investors? They're running with it.
In a move that surprised many, the Fed chair used his Jackson Hole speech to lean decisively into a dovish stance, making it clear that avoiding further damage to job creation is now the Fed's top concern—even if that means letting inflation move above 2%.
"The baseline outlook and shifting balance of risks may warrant adjusting our policy stance," Powell said, hinting strongly at a September rate cut.
For the markets, this was all they needed.
Stocks exploded higher, speculative names led the charge, and the “Everything Rally”—a rare environment where nearly all risk assets rise together—roared back to life.
The S&P 500 – as tracked by the Vanguard S&P 500 ETF (NYSE:VOO) – rose 1.55% to new record highs on Friday, notching its best day since late May.
Small caps – as tracked by the iShares Russell 2000 ETF (NYSE:IWM) – exploded by nearly 4%, hitting their best daily performance since April 9.
Powell's Focus On Labor Means Inflation Can Wait
Dennis DeBusschere, analyst at 22V Research, said the Fed is now signaling a willingness to let financial conditions stay loose, even with core inflation still sticky.
The trade-off? Higher short-term inflation, but a safer labor market.
"Powell made it clear he's focused on reducing labor market risks," DeBusschere wrote in a note Monday. "That focus on risk management means Powell is willing to accept higher inflation near term."
That mindset allows a rare divergence: easier financial conditions on one side, and stubbornly high inflation on the other.
However, instead of clashing, this setup could lift earnings expectations, as markets become more confident in the Fed's willingness to backstop growth—even with data still showing some economic strength.
According to 22V's internal data, the current environment meets the criteria for an “Everything Rally”—with 7 of the last 12 weeks showing broad-based strength across risk and fundamental factors.
“We have no reason to expect the recent outperformance of Value, Small caps, and Debt Risk names to reverse over the coming month,” DeBusschere added.
Even a firm August payroll report on Sept. 5 won't likely derail the September cut, according to the expert.
“With the Fed willing to run the economy hot near term, Energy might have some potential ‘catch-up’ within Value,” the analyst said.
Bottom Line: Powell's Bet Is On Jobs—And The Rally Lives On
For now, Powell's pivot is a gift to risk assets. He's letting the economy run hot, and that means lower rates, looser financial conditions, and rising earnings expectations—a perfect recipe for a risk-on market.
Investors are leaning into small caps, Value, and cyclicals. But the rally's foundation is fragile—anchored in Powell's balancing act. If inflation expectations spike or jobs roar back too strongly, the Fed may have to pull the punch bowl sooner than markets hope.
“What would derail that backdrop is inflation expectations creeping toward ~3%. For now, that is a low probability event, but it is something to keep an eye on,” DeBusschere said.
Until then, the Everything Rally is on.
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