Fed Watch: Welcome to Square One

The Federal Reserve’s decision this week to hold short-term interest rates where they are and to reiterate its uncertainty about the pace of rate hikes in the future came as a “shock” to some. The Wall Street Journal called the Fed’s inaction a “sharp reversal” from a few weeks ago when even Fed Chair Janet Yellen hinted strongly that rates would likely rise in June or July.

The media and the markets have been parsing Yellen’s words from the post-Fed meeting press conference when she declined to “specify a timetable” about when rates will be raised next. “We are quite uncertain about where rates are heading in the longer term,” Yellen reportedly said.

Rather than being upset or shocked by the Fed’s “uncertainty” over the direction of rates, we remind ourselves that it’s really the continuation of the status quo. (Since we can probably rule out interest rates going lower from here, the only options are unchanged and up—eventually.)

So while some might be flummoxed by the Fed hitting the brakes on raising rates, it’s good to step back and realize that we haven’t gone anywhere. We’re right back to a familiar Square One: ultra-low interest rates, slow growth (but growth nonetheless), and a low-return environment. This is hardly an exciting economic picture, but growth is still growth, and when compared to the rest of the world—especially Japan and Europe—the U.S. remains the bright spot.

The Astor Economic Index®, a compilation of non-correlated economic data, shows U.S. economic growth is still above average (although modestly so). Government and other forecasts are for GDP to grow by about 2% per year, while inflation remains modest, and unemployment stays below 5%. Even the disappointing Employment Situation report for May, which showed only 38,000 jobs added, could very well be revised upward in June or July.

It might not take much for the clouds to part for the Fed to see its way clear, from uncertainty to the long-expected 25 basis point move (which will only be the second, after December’s 25 basis point hike in almost 10 years). Even a better employment picture could prompt the Fed to move from inaction to action. When that might happen is anyone’s guess, and we’re not going to lose sleep over trying to pinpoint when.

For many months, we’ve been saying that people are overly concerned about rising interest rates. Whether rates remain here or go up 25 basis points between now and Labor Day just doesn’t make that much of a difference. To use a weather analogy (admittedly an unseasonable one for the start of summer), if it’s -10 degrees Fahrenheit outside and then “warms up” by 5 degrees to -5 or even 10 degrees to 0, it’s hardly a heat wave. You’ll still feel just as cold. By the same token, whether rates stay here or go up 25 basis points, they are still unusually low.

So while the Fed retreats to Square One, we should all keep doing what we do best. At Astor, that means continuing our vigilant study of economic data to determine whether there is any significant change in the picture that warrants a different view. For now, we see modest growth, low returns for stocks and bonds, and an environment that rewards risk assets overall.

The Astor Economic Index® is a proprietary index created by Astor Investment Management LLC. It represents an aggregation of various economic data points: including output and employment indicators. The Astor Economic Index® is designed to track the varying levels of growth within the U.S. economy by analyzing current trends against historical data. The Astor Economic Index® is not an investable product. When investing, there are multiple factors to consider. The Astor Economic Index® should not be used as the sole determining factor for your investment decisions. The Index is based on retroactive data points and may be subject to hindsight bias. There is no guarantee the Index will produce the same results in the future. The Astor Economic Index® is a tool created and used by Astor. All conclusions are those of Astor and are subject to change.

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Second Fed Rate Hike? Much Ado About Not Very Much

Imagine this scenario: You are at the next regular board meeting at Apple, Microsoft, Tesla or some company of your choosing. As you glance down the agenda, where do you picture the discussion of the Federal Reserve’s expected interest rate hike? At the top? Somewhere near the bottom?

My guess is that it isn’t mentioned at all. The reason? The widely anticipated 25 basis point hike in the fed funds rate, whether it happens in June or, barring that, then most definitely before the labor day weekend (read: end of summer).

A June or July increase would be only the second rate rise in six months. The previous move in December—a 25 basis point hike that inched the fed funds rate to the current range of 0.25-0.50%—was the first in 10 years.

Personally, although to be clear I don’t have a vote, lean toward a small hike occurring in June and possibly another hike later in the year. The Fed’s habit is to lower rates in response to events, while it raises them according to plan. The Fed’s plan has been obvious. Recently, Federal Reserve Chair Janet Yellen said that “in the coming months, such a move would be appropriate,” given the Fed’s plan to “gradually and cautiously increase our interest rate over time.”

Those who like to worry about the Fed’s actions have voiced concerns such as what would happen to the stock market. Would higher interest rates put a damper on the economy, hurt capital-goods investment, or slow the housing market? Or maybe their concerns are more philosophical, such as whether a 25 basis point hike would be premature with inflation below the Fed’s 2 percent target. Or maybe they fret about a stagnant global economy or the outcome of the “Brexit” vote over whether Britain should leave the European Union.

All of these worries are much ado about not very much. First of all, the Fed has stated it does not want the international picture to be too much of an influence in making its decisions. (For the record, a U.S. rate hike would not be particularly constructive for the rest of the world.) Rather, the Fed is focusing on the U.S.—the driver of the world economy.

And the U.S. economy is certainly strong enough to handle one or two modest rate hikes. Employment trends are strong: the four-year moving average of unemployment claims is at the lowest rate since the 1970s. We’re starting to see signs of tightening in the labor market, with wages on the service side up about over 6 percent, year over year—albeit slightly offset by the manufacturing sector. GDP growth over the past 12 months is running at about 2 percent, which is not out of bounds from what the Fed said it needs to see in a healthy economy. Furthermore, the still-strong dollar will likely become a tailwind for the U.S. economy as the rest of the world bottoms out (We’re seeing signs of green shoots in Europe, and Latin America has probably troughed.) and the dollar continues to stabilize.

Beyond these statistics, the bigger reason a rate hike of 25 or even 50 basis points won’t hurt the economy is it will remove uncertainty. For consumers, knowing where rates are likely to be over the next six to eight months helps them make decisions about such big-ticket purchases as a home or a car. Corporations do better with rate certainty as does the overall stock market.

Take away the uncertainty of rates, growth and elections and you have a support beam in the market that may be the catalyst for a surprise!!

All information contained herein is for informational purposes only. This is not a solicitation to offer investment advice or services in any state where to do so would be unlawful. Analysis and research are provided for informational purposes only, not for trading or investing purposes. All opinions expressed are as of the date of publication and subject to change. Astor and its affiliates are not liable for the accuracy, usefulness or availability of any such information or liable for any trading or investing based on such information.

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