Posted December 15, 2016 Ashley Chadwick
The Federal Reserve yesterday announced that they had increased the base rate of interest for only the second time in a decade. The target range for the Fed Funds rate now stands at 0.5%-0.75%, a hike of 0.25%.
The decision to raise interest rates was unanimous. They took this action as the US is approaching full employment, experience healthy levels of growth and inflation is rising back towards the target. Also, they members on the FOMC must be wary of incoming President Trump, who is promising plenty of fiscal stimulus that will stimulate growth and inflation further.
Indeed, it is possibly this rhetoric from Trump that led to an overall more hawkish tone from the Fed and Janet Yellen last night. The median projection for 2017 now stands at 3 interest rate hikes, in September that had been expecting just two.
Unlike the various political shocks that have caused the markets to have major moves and then quickly retrace them, the markets moved more predictably after Yellen’s press conference. The dollar rallied, with the dollar index closing above the 102 level for the first time in 14 years, it was trading around 101 prior to the announcement. The recent stock rally has been temporarily halted in the face of higher interest rates with the Dow losing 100 points or so and is now below 19,800, taking us further from the key 20,000 level. The S&P500 fell close to 1% on the news and now resides at 2252. Fixed Income was hit, with the 10 year T-Note a point and a half down from where it was and the two year yield is the highest it has been since 2009.
Today the markets will continue to adjust to a faster than expected pace of rate hikes, but it must be noted, a year ago, when they last hiked, the median projections stood at 3-4 rate hikes in 2016 and we only got 1 and it was at the final meeting of the year. Currently Fed Funds Futures are pricing 2 rate hikes and about a 60% of a 3rd. So the markets are largely in line with the Fed in their thinking. A year ago, the markets were pricing in 1-2 hikes whilst the Fed were saying 3-4. So this time around the markets are more in agreement with Yellen.
This announcement may have put the brakes on the stock market rally for now. It remains to be seen whether there will be a continuation of the Trump rally in stock markets, or even a Santa Claus rally, that can drive the Dow to the all important 20,000 level.