After waiting more than nine years, the Federal Reserve voted unanimously to raise short-term interest rates by 25 basis points, or a quarter of a percentage point. That puts the new range at 0.25%-0.50%, versus 0%-0.25% previously. We haven’t seen a rate increase in this country since June 2006.
In the statement explaining its move, the Fed cited a “moderate” economic expansion and strength in housing spending and business fixed investment. It also said “underutilization of labor resources has diminished appreciably” — Fed-speak for the job market is getting better.
While officials also highlighted relatively low inflation, they said it’s expected to rise in the “medium term” once falling energy and input prices wash through the economy. They also sounded relatively open-ended about what might happen next.
But they did imply that their base case is “gradual increases” in rates. In other words, they didn’t suggest this was a “one and done” increase, nor did they suggest they would ramp up the pace of hikes imminently.
|The stock market reacted with volatility after the Fed’s decision – first down sharply, then up.|
The Fed also voted to raise the seldom-used discount rate, which is charged on loans directly from the Fed to banks, by 25 points to 1%. And in forecasts released along with the decision, Fed members slightly increased their outlook for GDP growth in 2016 to 2.4% from 2.3%. They also slightly lowered their estimate of the unemployment rate to 4.7% from 4.8%.
After giving the markets time to digest the news, Chairman Janet Yellen stepped up to the podium to share further comments and take reporters’ questions. She said today’s move “marks the end of an extraordinary period,” but that it was warranted because of the “considerable progress that has been made” and that it “reflects the committee’s confidence that the economy will continue to strengthen.”
She went on to mention that the rising dollar and weak foreign economic growth were hurting exports and sectors like energy. But she said those negative forces were being “offset by solid expansion of domestic spending” and said foreign economic risks “appear to have lessened since last summer.” She also characterized the dollar’s rise as “transitory.”
Markets reacted violently, as they typically do. Stocks first sank, then soared, then sank, then surged 224 points on the Dow Industrials. The Treasury yield curve flattened even more, with the two-year yield and five-year yields rising about four basis points, but the 10-year yield rising half as much and the 30-year yield gaining just one point.
Gold and silver finished higher on the day, with the yellow metal up about $10 an ounce. The dollar was roughly flat.
So what does it all mean for markets and you? Well, there will be personal finance impacts on your loans and deposit accounts. I’ll go into more detail in my Friday morning column, so be sure to check that out.
As for the markets, I can’t say for certain what will happen in the next day or two. The immediate aftermath of every single Fed meeting is always volatile, with whipsaw moves in both directions as we’ve just seen.
But as I said yesterday, the real, underlying trends typically reassert themselves once the short-term turmoil ebbs. The biggest of those trends is the turn of the credit cycle. We’ve been highlighting all the ways it has manifested itself in market activity since late spring — from turmoil in emerging markets to plunging commodities to imploding junk bonds to slumping IPO activity to pressure on M&A.
One reporter called Yellen out on that, asking if the Fed helped inflate the junk-bond bubble and whether and how the Fed would respond. And while Yellen acknowledged the turmoil and fund redemption pressures, she downplayed those concerns and claimed we have a “far more resilient” financial system.
In other words, she gave no indication whatsoever that the Fed would respond with more QE, more bailouts, or anything else to quell the selling. Combine that with the fact the credit cycle turn is a long-term trend that isn’t really impacted by the level of the funds rate, or the Fed’s words, and you can see why I doubt today’s news will do much to change the outlook for high-risk bonds.
That leads to my last point — the psychological impact of (in Yellen’s words) the “end of an extraordinary period.”
We’ve had a massive, easy money-fueled rally in almost every asset on the planet since early 2009. This S&P 500 chart tells the tale:
Now, central bankers are no longer pulling in the same direction. Now, many markets like commodities, junk bonds and foreign currencies are seeing increased chaos and turmoil. Now, investors are realizing they have to bike with the training wheels removed.
That’s a big regime shift. It doesn’t mean stocks will plunge every single day, or that you can’t have interim rallies. But with the Fed pushing back on the “one and done” school of thought, you can expect volatility and uncertainty to increase in the run up to EVERY Fed meeting for the foreseeable future.
So I continue to recommend you keep more cash on hand, take profits and cut losses more quickly, and target stocks that are vulnerable in a rising-rate and increased-volatility environment. Also be sure to stay tuned to Money and Markets for all the latest guidance.
That’s my take. Now I want to hear from you. What do you think of the Fed’s decision to hike short-term rates? Was it too long in coming? Or was it the wrong move? What impact in the short- and long-term do you expect the move to have on the stock and bond markets? How about your finances? Definitely take a few minutes to weigh in given this monumental news.
Many of you weighed in on what you thought the Fed would do before today’s news hit the tape. Now that we know what they did, what kind of impact might the Fed’s decision have?
Reader Bernard said: “I believe the markets have already absorbed this rate-hike news and have discounted its impact. Also, we are just talking about a 0.25% hike.”
But Reader Cliff E. said the hike will have potentially significant impacts on the economy. His take: “The American economy is hollowed out and highly exaggerated. Any little shock will cause the entire debt-based economy to crash with the financial system. Second, any raise in interest will make our debt so huge that we can never repay it. What Bush and Obama did to this nation was to bankrupt us.”
Reader Mike C. said the Fed should have moved a long time ago, and may be dangerously late to the game now. His comments:
“I have believed for some time that rates should have been raised about four years ago, but that choice was not made, most likely for political reasons. The caveats that Yellen has drowned us with are based on the reality that they are late to the game on raising rates, and more importantly, we are tilting violently towards deflation.
“I have a hunch that the rate increase(s) have a better than 50% change of turning the other way. The state of the world economies, and commodity prices, are yelling that so loud that even the Fed can hear.”
Reader Phil said the Fed shouldn’t have even moved today, much less get itself into a position where it’ll have to reverse course before long: “The Fed has been data-based all along. No economic justification for higher rates has existed, despite right-wingers begging for a rate raise and berating the Fed for not doing so.
“Perhaps especially now, there remains little, if any, economic justification. While some old geezers like me will get some more bank interest, the younger people will suffer from deflation and a reduced economy, in part due to rising federal interest payments (more taxes, too). Any rate raise is purely for psychological reasons.”
Lastly, Reader Allitair said: “The hike is a deliberate gimmick, as the Fed will most likely reverse that hike in early 2016. The reason for such a gimmick is that much of the economic ‘improvements’ you hear coming from the U.S. government and the media are deliberate exaggerations to deceive the American people.
“The U.S. economy appears to be improving because the economic situation in much of the rest of the world (E.U. and Japan, for example) is much more decayed than that of the U.S. That’s causing flight capital to rush to the “safe” U.S. — for the time being. But eventually, the rotting/decaying U.S. economy will be exposed for every American to see, feel and experience.”
I appreciate you sharing your Fed opinions. Now that the big event is behind us, what do you think will happen next – in the bond and stock markets, as well as the economy? Let me hear about it online.
There will be no year-end government shutdown, thanks to a budget package House and Senate legislators agreed to last night. The package proposals will include delays on a medical device tax and a “Cadillac Tax” associated with expensive health care plans, as well as end the four-decade U.S. ban on crude oil exports.
The embattled drug company Valeant Pharmaceuticals (VRX) warned that earnings this year and next won’t meet sales and profit forecasts. Critics have lambasted the firm’s strategy of buying competitors, cutting R&D spending, and jacking up drug prices, as well as its close relationship with a drug distribution firm called Philidor RX Services.
Students in Los Angeles went back to school today, a day after the nation’s second-largest school district (640,000 pupils) was shut down due to a terrorist threat. Turns out New York City received a similar emailed warning, and deemed it a hoax — which is what the FBI said late yesterday the L.A. threat was as well.
The embargoed reviews of Walt Disney Co.’s (DIS) Star Wars hit the Internet early this morning, and they’re largely favorable. Now, Wall Street will wait with bated breath to see if early ticket sales live up to expectations. The firm needs a big win to offset concerns about subscriber loss and cord-cutting impacting its key ESPN properties.
So we’re “saved” – the government won’t shut down. How does that make you feel? What about the news on Valeant and Disney … how will it impact their shares? Any thoughts on the latest terrorist threat, and the revelation it was a hoax? Add your comments to the discussion below.
Until next time,
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