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Fed's Next Move in Focus

For the Fed, the time may be now.  The markets do not think so.  According to the Federal Reserve minutes of the January 31-February 1 meeting, some officials anticipated raising short-term interest rates “fairly soon”.  The next policy meeting is scheduled for March 14-15 and it will be followed by a press conference with Fed Chairwoman Janet Yellen as well as updated economic projections from the various governors.  Since the press conferences have been implemented, the Fed has always made any monetary policy changes concurrent with the post-meeting presser.  Though non-press conference meetings are always considered “live”, investors have come to believe that no changes will be made unless reporters have a chance to grill Ms. Yellen afterwards.   

According to futures markets, the chance of the Fed making a move next month is only 38%.  Interestingly, the chance of a rate hike at the May meeting, where there is not a post-meeting press conference currently scheduled, is 61%.  So, the market seems to be pricing in the fact that the Fed will lay the groundwork for a rate boost next month but actually not carry through with it until May.  That’s a tricky balancing act.  Why lay the groundwork and not pull the trigger?  If the Fed is waiting on a few more employment and inflation reports, what if the data is mixed with unemployment continuing to fall but inflation not rising?  There are more than one inflationary statistic—consumer prices, wholesale prices, personal consumption expenditures to name a few.  They have all been moving up but not at the same pace.  How does the market interpret that?  Clearly the Fed does not want to surprise traders.  Worse, however, would be confusing them. 

Yellen has always maintained that the committee was “data dependent”.  Between today and the next meeting, the following potentially market-moving reports are due: 4Q GDP annualized growth revision, GDP price index, personal income, personal spending, personal consumption expenditure deflator, initial and continuing jobless claims (two reports), durable goods orders, nonfarm productivity, monthly payrolls and unemployment report for February.  So, there is a lot of information that has yet to be released which could sway the Fed governors.  Should they raise rates in March or May, that will give the Fed more flexibility for the second half of the year should they choose to raise again.  There are seven meetings left in 2017 including next month’s, so getting one rate hike out of the way leaves many opportunities for further changes later.  Should they delay to June, or even later, the number of options diminishes and puts more pressure on each meeting.  We view a 50 basis point (0.50%) hike as highly unlikely so it will take more meetings to reach the 75 basis point move projected by the governors.  With the 10-year U.S. Treasury bond yield hovering around 2.33%, that is down from the year’s peak of 2.51% reached on February 15, suggesting that traders are just not sold on a move in the next few weeks.  We will continue to monitor the situation and report on changes, but volatility could increase in the next few weeks as economic data is released and the markets make final bets before the Fed convenes. 

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