Investors closely eyed the Federal Reserve (the Fed) this week, looking for indications of the first Fed funds rate increase since 2008.
The federal funds rate is the key driver for all types of interest rates and varies depending upon the strength of the economy. It sets the bar for bond prices, mortgages, loan rates, investments, real estate valuations, and so much more. As expected, the Fed removed the word “patient” from its policy statement, thereby opening the door to higher interest rates in the near-term.
However, the Fed also borrowed time with two additional references to inflation and employment. While this likely defers the possibility of an imminent rate increase, it does not preclude a move later this year. We explain why SageVest Wealth Management’s outlook still embeds a possible adjustment in 2015.
The Fed’s policy statement added an emphasis on inflation reaching their medium term target of 2%. Falling energy prices have sent already low inflation even lower in recent months. While energy prices tend to be transitory, the world is still dealing with widespread deflationary concerns. We believe that the Fed is wise to monitor global prices, which could delay an increase in the federal funds rate.
The Fed also lowered their projections for full employment from 5.2%-5.5% to 5% – 5.2%, after recently attaining their prior top-end target of 5.5%. Again, the Fed broadened its latitude. However, the adjustment was modest, recognizing that unemployment can only move so much lower before it will eventually spark inflation. A fully-employed labor force will inevitably demand higher wages. In our view, the employment market could be the definitive driver of the Fed increasing rates later this year.
The Fed has given themselves the ability to raise rates slower, if circumstances warrant, given the changes in their projections and tempest levels of inflation. Despite most Fed committee members expecting a rate increase in 2015, the situation is admittedly fluid and warrants close monitoring. Of particular concern to us, and possibly alluded to in the Fed statement with regard to exports, is the recent strength of the US dollar and the effect it has on our multi-national companies. Please look for our upcoming quarterly investor commentary for more discussion on this topic.
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