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The (un)predictable Fed

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For the past six weeks, the Federal Reserve has been in the headlines as the markets anxiously await its decision regarding raising the Federal Funds Rate for the first time since December 2008.

Between official press releases of meeting minutes, off-hand comments by Fed governors, and commentary by Chairwoman Janet Yellen, the Fed has poorly communicated what to expected, creating severe volatility in the markets, alongside a major correction that occurred in mid-August.

It has been argued that by keeping interest rates artificially low for the past several years, investors have mispriced risk as gains were relatively easy to come by. The market hit record highs in mid-2013 and continued to climb, nearly unabated, until recent events this past summer began to create fear and uncertainty. This puts the Federal Reserve in a difficult spot, as a further correction may be looming as the economy teeters.

A timeline:

  • August 19th: Fed meeting minutes are released, stating that the Federal Reserve would required more evidence of strong economic growth before raising rates. To quote, “The Committee agreed to maintain the target range for the federal funds rate at 0 to ¼ percent and to reaffirm in the statement that the Committee’s decision about how long to maintain the current target range for the federal funds rate would depend on its assessment of actual and expected progress toward its objectives of maximum employment and 2 percent inflation”
  • August 24th: After an initial drop following the Fed announcement - S&P500 was down 5% the following two day - the Chinese market crash (down 40% from its peak) along with a sub-$40 per barrel oil price caused a major decline; Many viewed this as a correction as it was the worst drop in the U.S. stock market since October 2008.
  • September 9th: Federal Reserve blackout period ends and members are able to communicate with the media. Mixed messaging from Federal Reserve governors prompts a period of volatility in the markets.
  • September 17th: Fed meeting minutes are released, where the Fed states that interest rates will remain unchanged; S&P500 dropped 1.6% following the announcement
  • September 24th: In a speech at the University of Massachusetts, Federal Reserve Chairwoman Janet Yellen states that a rate hike is expected by the end of the year. She states: “Accordingly, inflation may rise more slowly or rapidly than the Committee currently anticipates; should such a development occur, we would need to adjust the stance of policy in response.”
  • September 28th: The market reacts poorly to the mixed messaging as the S&P500 loses 50 points and drops 2.5% on the Monday following Yellen’s comments.
  • October 1st: Federal Reserve Bank of San Francisco President John Williams, a close ally of Janet Yellen, stated that he believes the Fed will raise rates this year.
  • October 2nd: A Labor Department report stated that the U.S. added 142,000 jobs in September, versus 201,000 that analysts predicted. As a result, bond traders an 8 percent chance the Federal Reserve will raise interest rates at its October meeting. Eric Rosengren, President of the Boston Fed, stated the U.S. economy needs to be growing at a 2 percent pace in the second half of the year to justify an interest-rate increase by the end of the year. The S&P500 closed at 1951.36.

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