Fed Rate Hike Decision: Damned if they Do, Damned if they Don’t

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We have the last couple of days noted the turmoil in the markets with push-and-pull between break-downand bounce. What will drive the narrative and prices short-term is the Fed rate decision. The Federal Reserve will decide if they rate the interest rates at their meeting Wednesday the 19th. The markets are speculating what Fed President Powell and the rest of the board will do. In most situations with an economy that is growing at 3.5% rate, unemployment at its lowest level in 50 years at 3.7% and wage growth accelerating one would assume a rate hike is given.

But with the recent market developments and massive pressure from various parties it is not sure if the Fed will raise rates. First and foremost President Trump has been strongly warning the Fed against a rate-hike. The Hill writes;

“I hope the people over at the Fed will read today’s Wall Street Journal Editorial before they make yet another mistake. Also, don’t let the market become any more illiquid than it already is. Stop with the 50 B’s. Feel the market, don’t just go by meaningless numbers. Good luck!” he tweeted

The editorial President Trump was referring was written by legendary hedge fund manager Stan Druckenmiller. It to basically state that due to the fact the rest of world’s economy is not doing that well, the Fed should not raise. It notes;

Economic growth outside the U.S. decelerated over the past three months. Global trade growth also slowed markedly, running about one-third lower than earlier in the year. Growth in some important economies, like China, is significantly weaker. No ocean is large enough to insulate the U.S. economy from slowdowns abroad. And no forecasting model adequately captures the spillovers and spillbacks between the U.S. economy and the rest of the world.

This has put the Fed in a difficult position. Half of the S&P 500 index are in bear market territory, and the feds usually don’t raise in bear markets. Bloomberg observes:

While the role of markets in the Fed’s policy calculus is endlessly debated, the fact is, since 1980, rate hikes have almost always come amid equity buoyancy. On average, the S&P 500 is up 4.1 percent, 6.9 percent and 11 percent over the previous three, six and 12 months when tightening occurs. The exception was in the 1970s, when the Fed ignored market turmoil to combat inflation that was running at 7 percent a year. 

This means whilst all the data points towards the economy doing well, financial markets indicators are negative. The Fed is supposed to be an independent institution, not affected by political or other pressures. Today not only is President of the U.S. warning it not to raise, but also market participants. One can say that both the President and Mr. Druckenmiller are talking their own books and the Fed should not be influenced by either them or other party. The Fed are basically damned if they do, and damned if they don’t, as perception of their independence is also on the line.

From a market perspective, what is more important than potential current rate hike, is what fed says about rate hike increases in 2019.  FT writes;

The key questions in traders’ minds will be how close the Fed is to ending its rate-lifting cycle, and whether a “pause” is possible in March 2019.

 There is a risk that the markets will react even more negatively if Feds language about potential rate increases in 2019 is not dovish. With that said, Fed is walking a tight-rope making sure that it is an independent institution and not affected by any outside party.