What If The Fed Actually Raises Rates Several Times In 2017?

From Brad Hoppmann: When I checked the Fed Funds futures last week, the market had priced in a 100% chance that the Federal Reserve would hike rates 25 basis points at today’s FOMC meeting.

Well, the Fed didn’t disappoint. Chair Janet Yellen and her cadre of central bankers moved to raise the cost of capital by said amount for the first time in a year. The Fed’s target range was lifted from a range of 0.25% to 0.5% to 0.5% to 0.75%.

The surprise factor was virtually non-existent. So the initial reaction in markets was basically a yawn (although there was the usual immediate buying and selling post-Fed announcement).

The major indices were all down modestly 30 minutes after the 2 p.m. Eastern announcement. But then that yawn morphed into a decided sell-off, as stocks finished the day down almost 119 Dow points, or 0.6%.

Now, beyond the move in the Fed Funds rate, the real data point that I was waiting to see from the Fed today was what the “dots” would say.

The dots are the Fed’s projections of where interest rates may be in a year. Here, everyone was anticipating (and hoping) the Fed would keep the dots at a consensus of two. Meaning, the Fed intends to hike rates no more than twice in 2017.

It is here where the Fed offered up a December surprise.

That’s because the dots now indicate that the members of the central bank think there will be three 25-basis-point hikes by the end of next year.

The Fed now sees the Federal Funds rate rising to 1.4% in 2017. This is an increase from the 1.1% estimate reflected in the September FOMC meeting. The committee also now expects two or three hikes in 2018, and three hikes in 2019.

Of course, these dots are notoriously unreliable.

Recall that one year ago, the dots indicated that there would be four rate hikes in 2016. As it turned out, that was way off, as there was only one hike … and it arrived today.

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Interestingly, the Fed made no mention in its statement about the potential for fiscal stimulus next year from the new Trump administration.

If there is a high level of fiscal stimulus injected into the economy via a major infrastructure spending program …

And if there are tax cuts on either the corporate or personal level …

Then that would most likely heat up the economy such that the Fed would move rate expectations much higher.

Remember that the Fed has two mandates: controlling inflation, and engineering the economy toward full employment.

Given that the November unemployment rate was just 4.6%, one could argue that this is about as close to full employment as it gets.

As for inflation, those expectations are rising. But the Fed made clear in its statement that the headline metric remains below the FOMC’s target:

Inflation has increased since earlier this year but is still below the Committee’s 2 percent longer-run objective, partly reflecting earlier declines in energy prices and in prices of non-energy imports.

But if a lot of fiscal stimulus pours into the economy out of Washington, that would very likely cause inflation metrics to rise. And that would make the Fed much likelier to hike rates even further than today’s dot plot suggests.

In her presser today, Yellen reiterated the basic ideas from the FOMC statement.

Yet markets didn’t like what the Fed chair had to say. The Dow was down nearly 150 points, or about 0.5%, when Yellen wrapped up the press conference at around 3:20 p.m. Eastern.

The Fed made no official mention about the potential for fiscal stimulus next year by the Trump administration. But Yellen did make one eye-opening admission in the press conference.

That admission was:

“Some of the participants, but not all of the participants, did incorporate some assumption of a change in fiscal policy into their projections … “

While the official word is that the Fed didn’t consider a Trump fiscal stimulus agenda in its dot projections, the Yellen admission here pretty much reveals that at least a few of the FOMC members are preparing for Trump.

Wise investors would be smart to do the same, as more stimulus from the White House could mean more rate hikes from the Fed … and that may be a headwind for the economy, and for the stock market.

The iShares Barclays 20+ Year Treasury Bond ETF (NASDAQ:TLT) fell $0.13 (-0.11%) to $116.69 per share in premarket trading Thursday. Year-to-date, the largest fund tied to long-term Treasuries has fallen 3.12%.

This article is brought to you courtesy of Uncommon Wisdom Daily.

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