At the last meeting of the U.S. Federal Reserve’s rate-setting Open Market Committee, a majority predicted the central bank would need to hike rates again when it meets at the end of this month.
Wall Street isn’t having it: investors are betting the Fed will now leave rates alone. Last week, futures markets were pricing in only a 25-percent chance of a rate increase at that meeting.
In part, their optimism grows from recent comments by Fed officials that past interest-rate bumps have done their job and inflation will continue to ease as those impacts work their way through the economy.
Investors’ hopes also are buoyed by soaring yields on the 10-year treasury bond.
The bond acts as a benchmark for interest rates on mortgages and a range of other loans. That yield moved close to 5 percent last week, near a 20-year high, shrinking borrowing and cooling the economy without the Fed needing to act further, many analysts contend.
Fed officials have acknowledged that rising yields on government bonds will have the same effect as another rate increase by the central bank.
“It may be too soon to say confidently that we’ve tightened enough,” Fed vice-chair Philip Jefferson said in a speech last week, adding that the Fed “will be taking financial market developments into account along with the totality of incoming data in assessing the economic outlook.”
“If financial conditions are tightening independent of expectations for monetary policy, that will reduce economic activity” and, with it, inflation, commented Michael Ceroli, J.P. Morgan’s chief U.S. economist. “Things change, you change your forecast.”
Lorie Logan, president of the Federal Reserve Bank of Dallas, added some caution into the debate, pointing out that the reason for rising treasury yields is as important as the higher yields themselves.
If yields are rising because investors demand greater reward for taking a risk on the economy’s future, that will help cool inflation, she said. However, if returns are rising because investors think the economy will continue to grow even amid today’s higher interest rates, that would likely rekindle inflation.
Michelle Bowman, a Fed governor known as a rate hawk, said on 2 October that another rate increase would “likely be appropriate.” In an 11 October speech, she said rates “may need to rise further.” That subtle shift of language is seen as a clue that even aggressive Fed members may see the hiking cycle as done, analysts told The Wall Street Journal.
Fed officials’ greater openness to leaving rates alone helped slow the rise in treasury yields, the WSJ reported. On 10 October, the ten-year bond’s yield fell the most in a day since March’s banking crisis.
Higher interest rates also have flummoxed stock markets. September marked the year’s worst month for the Standard & Poor’s 500 index. This month, however, prices have trended upward in tandem with treasury yields.
TREND FORECAST: Through much of this year, analysts and investors have predicted the Fed will soon cut rates, only to be proven wrong.
Because the Fed has a history of disappointing interest-rate optimists, odds slightly favor another rate bump at the Fed’s next meeting, especially now that the new Mideast war is driving oil prices higher and will rekindle inflation if the conflict drags on.
Should the Fed raise rates, the dollar will get stronger, and gold prices will go lower… as will the equity markets and investors put their cash in U.S. Treasuries, money market funds, and CDs where they will receive 5 percent or better on their investment with very low risk.