Posted December 17, 2015 Ashley Chadwick
The FOMC raised interest rates on December 16th, for the first time since 2006. This begins what is expected to be a rate tightening cycle. They raised their target range by 25 basis points to 0.25%-0.5%.
This move was widely telegraphed and therefore had limited impact in the markets. The Dow and S&P have moved up around 1% 18 hours after the announcement. There is strength going through the dollar, with the Dollar Index also up nearly 1%. The Pound now sits around the 1.492 mark against the Dollar. In many ways, the important detail last night lay in the economic projections for the federal funds rate.
At alternate meetings they the FOMC participants’ assessments of appropriate monetary policy, knows as ‘the dots’. This shows where members of the FOMC, both voting and non-voting, believe the interest rate should be at the end of each year. The tone from the dots was dovish, with the median estimate for the end of 2017 and 2018 falling since September. Whilst the central tendency range, which excludes the three highest and lowest dots, fell for the next three years as well as the long run. This highlights that any following rate hikes will be gradual and that this is not the end of easy monetary policy.
There is an apparent disconnect in the dots and what the market is expecting. The dots indicate FOMC members expect 4 rate hikes next year, to take the range to 1.25-1.5%. However the short term interest rate futures market are currently pricing in no more than 3 hikes by the end of 2016. The story of 2017 is more telling, with the market indicating rates will be around 1.75% but this is lower than the most dovish projection of the FOMC members. It will be intriguing to see who is correct in the long run.