Judging by declining stock prices in the wake of the Fed’s decision to hold off on the first rate hike in nine years, investors appear disappointed they didn’t move toward a normalization of monetary policy.
Are investors actually hoping for a Fed rate hike?
Put simply, the biggest enemy of stock prices is not rising interest rates, it’s uncertainty. And one of the biggest drivers of uncertainty in capital markets today is what appears to be an indecisive Federal Reserve.
In addition, the Fed’s reluctance to raise rates for so long is beginning to feed into the narrative that the U.S. economy and economies abroad are not strong enough to withstand even a quarter-point increase. It’s the thinking that the global economy and capital markets would collapse without the Fed’s monetary stimulus. If the Fed has no more ammunition to stimulate the U.S. economy, and the economy cannot live without a zero-rate lifeline, investors may be correct that no rate hike is actually bad news.
Whether this narrative matches reality or not doesn’t matter so much in the short-term, when investor sentiment is steering stock prices and mostly in the downward direction.
But is this negative narrative on the Fed far away from reality?
Former Dallas Federal Reserve Bank President Richard Fisher said Tuesday that his former colleagues at the Fed had confused the markets, as reported by CNBC. Fisher told CNBC’s “Squawk Box”:
“I don’t think I’ve seen this much confusion in my 10 years of service and (since) my retirement in March. It is really not a good signal. I think it discomforted the markets, and I hope they find a way to correct the image that’s been created that they’re lacking in direction, and give a better sense of where things might go.”
Fisher went on to say that he thinks there will be no rate hike until 2016 because an increase in December would cause volatility in the markets during a time when portfolio managers are trying to “window-dress their statements before year-end.”
Why Was Fed Rate Hike Delayed?
The Fed has a dual mandate of maintaining full employment and controlling inflation. But according to the Bureau of Labor Statistics’ August household survey data, the unemployment rate was at a healthy 5.1% and the consumer price index stood at a low 1.8% during the last 12 months.
While the low inflation rate justifies holding off on a rate hike, the U.S. economy, especially in consideration of the Q2 2015 gross domestic product growth rate of 3.7%, seems strong enough to withstand a quarter-point increase in interest rates now. Furthermore, a rate hike sooner rather than later would ensure that the Fed is proactive and ahead of inflation, as opposed to falling behind.
So what gives with standing pat on monetary policy? Here are key takeaways from the September FOMC minutes:
- Economic activity is expanding at a moderate pace.
- Household spending and business fixed investment have been increasing moderately, and the housing sector has improved further.
- The labor market continued to improve, with solid job gains and declining unemployment.
- Inflation has continued to run below the committee’s longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports.
- Recent global economic and financial developments may restrain economic activity somewhat and are likely to put further downward pressure on inflation in the near term.
That final point about concerns about global economies – e.g., China – may have been the biggest factor in the Fed’s decision to hold rates near zero.
The bottom line is that, whether they agree or disagree with the Fed’s decision, investors were given something to worry about — a weak global economy that can pull down what is appearing more like a fragile U.S. recovery that is still dependent on near-zero rates.
Now investors can begin wondering about Fed meetings in October and December…
Kent Thune is the owner of an investment advisory firm in Hilton Head Island, S.C. Under no circumstances does this information represent a recommendation to buy or sell securities.
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