The US central bank is expected to raise its policy rates by a quarter of a percentage point next Wednesday, but only the next morning its markets team will know how effective the Fed’s new and lightly-tested tools will be in prying rates off the floor.
Advertisement
It’s finally near. That long-awaited day when the Federal Reserve removes the training wheels from the USA economy and raises rates, if they have the intestinal fortitude. This communication will be crucial, because many financial market participants still fear that once the Fed starts raising rates, there are considerable risks that it may tighten too soon and faster than warranted. “We expect things to start moving from early next week”.
While the low-rates and other interventionist measures adopted by the Fed in the aftermath of the crisis have hardly proven a panacea for the world’s economic woes, the policies likely staved off another Great Depression.
Even if the Fed does raise rates, what is also important to look out for is whether there is some kind of commitments to future hikes and if the Fed sounds dovish markets will react negatively. “On Friday, we saw some kind of a pause or a little selling”.
This is due to the inherent difference between these two selloffs – in 2009, a financial meltdown in the global markets led to asset prices falling everywhere, although underlying oil demand was strong and supplies were merely sufficient to meet good demand. The S&P BSE Sensex broke below 25,000 but closed slightly higher, while the Nifty50 breached 7,600 on the downside.
The impact of this announcement may not be much, as the short end of the yield curve has already seen some selloff in anticipation.
Analysts attribute the recent fall in these stocks to relentless selling by foreign institutional investors with high levels of holdings.
Wall Street might have an initial reaction to a rate hike, but the medium-term market reaction will depend on how quickly rates increase. “That’s orderly, markets love that”, she said. However, hike expectations over next year for subsequent have firmed somewhat. Their predictions see a larger jump in short-term rates, with LIBOR increasing from around 0.35% to 1.45%, the Prime Rate from 3.25% to 4.25%, and the Fed Funds rate jumping from 0.25% to 1.25%. Two reasons: We will likely see a supplementary budget bringing some fiscal easing for 2016, and “core core” inflation (what we call just “core” in the USA, i.e., ex energy and food) has at last been trending up toward 1% recently, a trend we see as friendly to BOJ Governor Haruhiko Kuroda’s current programming.
For Dhawan, gradual means the Fed will raise the benchmark rate a second time in March and then do nothing until December after the US presidential election.
And over a longer horizon, the expectations of future rate increases have also diminished. This is evident from the constant selling witnessed in equity markets not just in India, but across the globe.
In the past, utilities and real estate were among the better performers in the three months prior to a rate hike and in the year following, according to Michael O’Rourke, chief market strategist at JonesTrading in Greenwich, Connecticut.
Advertisement
Banks will benefit from higher interest rates thanks to increasing net interest margins. The bigger issue is after that what? Bottom-of-the barrel rates leave the Fed with one less tool to drag out of the shed in the event another economic stimulus is needed. Our office is recommending to mortgage clients to lock rates in because while there is a slight chance they could drop slightly, there is a significant chance they could surge without warning.
