The Fed Could Hike Rates by September 2015
When Should You Expect the Fed's Next Rate Increase? (Part 5 of 5)
To be sure, this window has been open for a while. Given the longer-term improving picture in the jobs market, I had long expected a rate hike by this June, and the Fed would be remiss not to begin liftoff later this year. While employment is by far the best it has been in 15 years, the Fed funds rate is stuck at emergency levels, as evident in the juxtaposition between the two charts below.
As for what a September rate hike means for investors, I expect that rate normalization will be borne well by the economy, and it may actually have a positive impact. While some market observers believe that even a modest rate rise will disrupt markets, the Fed has made it clear that rate increases will be measured and gradual, a pace likely well-anticipated by markets at this stage.
On the other hand, the risk for markets is that the Fed keeps rates excessively low for too long. This would force investment at artificially low interest rates within an economy that is very far from the emergency conditions that warrant such rates.
Market Realist – The Fed could hike rates by September.
The graph above shows the annual average monthly changes in non-farm payrolls since 2000. Job creation has been improving over the last few years. On average, ~261,000 jobs per month were created in 2014, which is the highest in 15 years and much higher that the 15-year average of ~57,000 per month. A strong labor market has supported the stock markets (VTI)(SPY).
While the labor market suggests that the economy is on a strong footing, interest rates are still stuck at “emergency levels.” If adjusted for the bond-buying program (BND), interest rates would be even lower, as the second graph shows. The program pumped liquidity into the economy, which put downward pressure on interest rates.
These interest rate levels are unprecedented—and hard to make a case for, given the economy’s strength. Inflation could rise soon. The Fed may not want to wait for inflation to gain momentum, given where interest rates are and the liftoff’s expected gradual speed.
When the hike does happen, though, the yields on the short side of the curve (SHY) should be more affected than long-dated side of the curve (TLT), as the spread between the ends of the curve should narrow.
Read Is 2015 the Year for Rising Interest Rates? for more on why interest rates could rise.
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