There has been much discussion about when the FED will increase interest rates and by how much. While no increase has taken place the markets have none-the-less reacted to comments from the FED and various pundits. What the Federal Reserve (FED) says, or signals, is often as significant as what they actually do from a policy standpoint. The FED utilizes these actions to try and control monetary policy and the overall economy.
Before the September 18th FED meeting many were expecting one of two scenarios:
- An increase in interest rates with a statement of how good things are
- No move in interest rates with a more aggressive statement
We didn’t get either. There was no increase in the FED Funds rate nor was there an aggressive statement. Previously the reasons given for the interest rate policy have been the fragile U.S. economy, market turbulence, concerns about inflation, the global economy in general and China’s status specifically. The lack of action at the September 18th meeting was attributed to the “recent global economic and financial developments.”
We realize that the U.S. economic recovery is not perfect, but we don’t think that it still requires interest rates to be at zero. Potentially this could lead to a larger interest rate hike in the near future. Many had expected a 0.25% increase at this meeting with a total increase of 1% over the next twelve to eighteen months.
As mentioned above the Fed cited “global economic and financial conditions” (translation: China is a mess) for its reason not to increase rates at the September 18th meeting. We have seen a steady expansion in the U.S. economy and big improvements in the U.S. labor market with some signs that inflation may be picking up. Moreover, thirteen of the 17 members of the FOMC have signaled their desire for a rate hike in 2015 (source federalreserve.gov)
We expect that the FED funds rate will be increased in the near term and that this could lead to some short term market volatility without much drama for the capital markets. The U.S. labor market is tightening and wages are likely to soon begin increasing. If the markets begin to fear that emerging inflationary pressures can be tamed only by an aggressive series of rate hikes, stock prices may suffer more than if there are moderate increases.
Regardless of what actually transpires we feel that the uncertainty will continue to contribute to short term market volatility. The one thing markets like less than bad news is uncertainty. Clarity of policy, even if rates are moving up, should help the broader markets. We continue to believe that the FED will be raising interest rates over the next year and that equity markets will continue to grow over the next three to five years. As always it’s important to have cash on hand for near term needs but perhaps equally so be positioned to take advantage of the longer term growth of markets as inflation picks up. In our opinion the best way to do this is to remain broadly diversified with holdings in sectors that may currently be out of favor such as hard assets and international. Your allocation should ultimately be based on your goals and needs, not short term market or economic movements.
We do not believe that anyone can predict what will transpire with the markets or economy in the very short term nor that itis important to do so. There will always be those who have an agenda to sell something (newsletters, etc.) that claim they have a new way to predict what is going to happen in order to justify the cost of their product.
We will continue to help you allocate your portfolio in a manner that does not require clairvoyance but prepares you for all contingencies. As always please give your advisor a call with any questions, concerns or if we can otherwise be of service. We are here for you. You may contact us at (440) 974-0808 or email@example.com