Federal Reserve Rate Hike #2

The Federal Reserve will likely raise short-term interest rates this week, when it convenes the last policy meeting of 2016. The second rate hike of the cycle comes one full year after the first, nine years after the last time it had previously raised rates. The central bank is probably more confident about this action than it was a year ago, because it will occur after the President-elect indicated that there would likely be a new boost to the economy, in the form infrastructure spending, tax cuts and deregulation. While GDP averaged a fairly subdued 2 to 2.25 percent during the recovery thus far, the potential Trump actions have prompted economists to increase their estimates for 2017 to 2.5 to 3 percent. Economists and investors will be paying close attention to any mention of how the FOMC may change its outlook in response to the major fiscal stimulus that will likely be enacted. A faster growing economy could mean that the Federal Reserve will finally see its much-desired pick up prices and as a result, the central bank should be gearing up for a series of rate hikes in 2017.

Here’s the rub: for all of candidate Trump’s complaining about Janet Yellen’s Fed keeping rates too low for too long, the biggest risk to the current expansion would be if the Fed were to move more quickly than anticipated, putting the current stock market rally at risk and potentially sparking a recession.

Fear not…current Fed officials appear to on track to under-deliver on their inflation target, as they have done consistently over the past twenty years. That’s why Yellen has been so willing to be patient on raising rates. Although Trump took aim at Yellen for not raising rates faster, she may in fact be the ideal Fed Chair to keep the economic expansion/stock market rally alive in 2017.

HOW WILL THE FED’S ACTIONS IMPACT CONSUMERS?

Savings: Any increase in the Fed Funds rate could help nudge up rates on savings accounts, but after the first increase, banks passed very little of the increase on to their customers. Bottom line: savers’ suffering is not likely to end any time soon.

Mortgages: While rates for fixed rate mortgages key off the 10-year government bond, not short term rates that the Fed controls, yields have already started to rise since the election. The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($417,000 or less) increased to 4.27 percent, the highest level since October 2014 and up from 3.5 percent before the election. Adjustable rate mortgages (ARMs) are linked to shorter-term rates, which means that consumers should be careful about assuming these loans and also should consider locking in a fixed rate now. Those who have ARMs could see payment increases down the road.

Auto Loans: For those planning on purchasing a new car with a loan, don’t worry too much. An extra quarter-point increase on a $25,000 loan amounts to a few dollars a month in higher payments.

Credit Cards: Most credit cards have variable rates and unlike the savers, the card companies are quick to pass along the increase to the borrowers within a few billing cycles. You may want to consider locking in a zero balance transfer offer, because it won’t be around as the Fed keeps increasing rates in 2017.

Student Loans: Federal loans are fixed, so there will be no impact from a rate increase, but some private loans are variable. Double check your paperwork to determine what benchmark rate (Libor, prime, T-bill) your loan is tied to.

HOW WILL THE FED’S ACTIONS IMPACT INVESTORS?

Stocks: If the Fed goes slowly and the economy improves, the stock market should be fine. But, as noted above, if the central bank ends up raising rates faster than expected, it could hurt prices. In the past, shares of banks, energy, industrials and technology do well amid rising rates.

Bonds: When interest rates rise, bond prices fall and in this particular cycle, it could be even more painful, because the slow growth recovery lulled many bond investors into complacency. That said, there is no reason to abandon the asset class. For most investors who own individual bonds, they will hold on until the bonds mature and then purchase new issues at cheaper prices/higher rates. For those who own bond mutual funds, they will reinvest dividends at lower prices and as the bonds in the portfolio mature, the managers will reinvest in new, cheaper issues with higher interest rates. In other words, being a long term investor should help you weather rising interest rates, though you may want to consider lowering your duration, using corporate bonds and keeping extra cash on hand. (For more on bonds, check out this post.)

MARKETS: There were new records all around, providing more post-election gains. Since November 8^th, the Dow is up 8 percent, the S&P 500 has gained 11 percent and the NASDAQ is up 9 percent.

• DJIA: 19,756, up 3.1% on week, up 13.4% YTD (23^rd record close of 2016)
• S&P 500: 2259, up 3% on week, up 10.6% YTD
• NASDAQ: 5444, up 3.6% on week, up 8.7% YTD
• Russell 2000: 1388, up 5.6% on week, up 22.2% YTD
• 10-Year Treasury yield: 2.47% (from 2.39% week ago)
• January Crude: $51.48
• February Gold: $1,161.40, 5^th straight weekly decline
• AAA Nat'l avg. for gallon of reg. gas: $2.20 (from $2.17 wk ago, $2.01 a year ago)

THE WEEK AHEAD:

Mon 12/12:

Tues 12/13:

6:00 Small Business Optimism

Weds 12/14:

8:30 Retail Sales

8:30 PPI

9:15 Industrial Production

2:00 FOMC Meeting Announcement/Economic Forecasts

2:30 PM: Fed Chair Janet Yellen press conference

Thurs 12/15

8:30 CPI

8:30 Empire State manufacturing survey

8:30 Philly Fed manufacturing survey

10:00 NAHB homebuilder survey

Friday 12/6

8:30 Housing Starts

Will the Post-Election Stock Rally Last?

Stock indexes staged a broad, post-election rally, as investors pushed aside their concerns about a potential global trade war and a clampdown on immigration, and instead bet that President-elect Trump’s promise of infrastructure spending would propel profits at large industrial companies and his tax cuts would boost the economy. (Irony alert #1: Congressional Republicans have argued that the financial crisis stimulus (the $787B American Recovery and Reinvestment Act) did not work and fought against subsequent infrastructure spending plans as a way to boost economic growth.) While most believe that infrastructure spending would help the economy, the total impact would be largely determined by its size. At one point during the campaign, candidate Trump promised to spend about $550 billion over five years. If there is general agreement on the positive aspects of infrastructure spending, there is little consensus on Trump’s potential tax plan, which in its current form would disproportionately favor wealthier Americans.

According to the Tax Policy Center, by 2025, 51 percent of Trump’s tax reductions would go to the top one percent of earners (those earning more than about $700,000). Yes, the plan would raise the after tax income of middle class Americans by about 1.8 percent, but the top 0.1 percent would see a tax cut of more than 14 percent of after tax income. (Irony alert #2: The Trump tax plan would likely exacerbate income inequality that already exists and could be a surprise to those Trump voters who said that they felt left out of US economic progress.)

Economists caution that there are two other problems with the Trump tax plan: (1) rich people do not tend to spend their tax cuts; rather they redirect the savings into their investment accounts—that’s good for financial markets, but not so hot for the overall economy and (2) the tax cuts would cause a spike in federal debt levels – the plan would increase the federal debt by $5.3 trillion over ten years, according to the nonpartisan Committee for a Responsible Federal Budget. (Irony alert #3: Taken together, the spending and the tax cuts could balloon the national debt to more than 100 percent of GDP within a few years. How will fiscal conservatives make peace with that potential?)

Trump’s spending and tax cuts could help stimulate the economy in the short term, though the combination of those policies could also spur inflation and prompt the Federal Reserve to raise interest rates at a faster pace than currently expected. Under normal monetary policy, a faster rate hike cycle might snuff out a recovery. But some economists are more concerned that under President Trump, there would be a change in the composition of the Federal Reserve Board. (There will be a couple of vacancies next year and Fed Chair Janet Yellen’s term ends in February 2018.) A less disciplined Fed might accept more inflation, leading to higher long-term interest rates and a weak US dollar. A glimpse of how these policies could impact the bond was seen last week: more than $1 trillion was wiped off the value of bonds around the world.

Another area that could see big changes under President Trump is regulation. In addition to easing up on environmental rules, most expect to see a watering down of the Dodd Frank Wall Street reform, which had attempted to reign in the excesses, which contributed to the financial crisis. (Irony Alert #4: A populist President, put in office by an electorate that hates banks, would make life easier for the financial services industry. Financial sector stocks increased by 11 percent last week.)

Under Trump, the Consumer Financial Protection Bureau (CFPB), which was created out of the Dodd-Frank Act, will likely get diluted. In October, a federal appeals court ruled that the CFPB was “unconstitutionally structured” and as a result, the agency should be treated like others, where the president can supervise, direct and change the director at any time. Current CFPB chief Richard Cordray is unlikely to keep his job.

And finally, the big investment firms, which fought tooth and nail NOT to put clients’ interests first, are ready to resurrect their battle to water down the consumer-friendly Department of Labor Fiduciary Rule set to go into effect in April 2017.

MARKETS:

• DJIA: 18,847, up 5.4% on week, up 8.2% YTD (best week of 2016, biggest weekly gain since Dec 2011)
• S&P 500: 2164, up 3.8% on week, up 5.9% YTD
• NASDAQ: 5237, up 2.8% on week, up 4.6% YTD
• Russell 2000: 1282, up 10.2% on week, up 12.9% YTD
• 10-Year Treasury yield: 2.12% (from 1.77% week ago)
• British Pound/USD: 1.2593 (from 1.2518 week ago)
• December Crude: $43.41, down 1.5% on week, 3^rd consecutive weekly loss
• December Gold: $1,224.30, down 6.2% on week, lowest close since early June and worst weekly loss since June 2013
• AAA Nat'l avg. for gallon of reg. gas: $2.18 (from $2.22 wk ago, $2.20 a year ago)

THE WEEK AHEAD:

Mon 11/14:

Tues 11/15:

Home Depot

8:30 Retail Sales

8:30 Empire State Manufacturing

8:30 Import/Export Prices

Weds 11/16:

Cisco, Lowe’s, Target

8:30 PPI

9:15 Industrial Production

10:00 Housing Market Index

Thursday 11/17:

Wal-Mart, Staples

8:30 CPI

8:30 Housing Starts

8:30 Philly Fed Business Outlook

10:00 E-Commerce Retail Sales

Friday 11/18

10:00 Leading Indicators

Yellen's Jackson Hole Speech May Move Markets

The first eight months of the year have been dominated by one question: When will the Fed raise rates next? The answer may come from a surprising place: Jackson Hole, WY. Since 1982, the Federal Reserve Bank of Kansas City has hosted a late summer economic policy symposium in Jackson Hole. The event brings together central bankers, private market participants, academics, policymakers and others to discuss the issues and challenges in a public but informal setting. While this may sound like a bunch of boring people in a beautiful location, in recent years, some central bankers have made big news from Jackson. In 2010, Fed Chair Ben Bernanke discussed the pros and cons of several policy options, including buying “longer-term securities,” which was the premise of the second round of quantitative easing or QE2. Two years later, Bernanke used his Jackson Hole remarks to introduce the possibility of a third round of asset purchases known as QE3, when he said: “The Federal Reserve will provide additional policy accommodation as needed to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability.”

Four years later, the central bank is no longer buying assets to prompt economic growth, but so far, it has only increased its benchmark interest rate one time-last December. While some Fed officials have recently been leaning towards an interest rate increase sooner rather than later, others are concerned that the economy remains too fragile to risk higher rates. Further evidence of the division between the two camps was evident in minutes from the last policy meeting.

That’s why at this year’s Jackson Hole confab, traders and economists will listen closely to current Fed Chair Janet Yellen’s speech, “The Federal Reserve’s Monetary Policy Toolkit” to see if there is either an implicit or explicit clue about when the next rate hike will occur. While she is not likely to say, “September is baked in the cake,” she may discuss the factors that would lead to an increase in September, like another strong employment report along with firming inflation. Right now, the market is predicting just a 20 percent chance of a September move and 50 percent likelihood at the December meeting. A September surprise could knock stocks down from their peaks and usher in what could be a bumpy autumn.

MARKETS: Summertime and the living is easy….in what was a typical August week, stocks bounced around all-time highs, but closed mostly unchanged amid light volume.

• DJIA: 18,552, down 0.1% on week, up 6.5% YTD
• S&P 500: 2183, down 0.01% on week, up 6.8% YTD
• NASDAQ: 5238, up 0.1% on week, up 4.6% YTD
• Russell 2000: 1236, up 0.5% on week, up 8.9% YTD
• 10-Year Treasury yield: 1.58%
• British Pound/USD: $1.3078
• September Crude: $48.52, up more than 20% since falling below $40 in early Aug
• August Gold:  at $1,340.40
• AAA Nat'l avg. for gallon of reg. gas: $2.16 (from $2.13 wk ago, $2.63 a year ago)

THE WEEK AHEAD:

Mon 8/22:

8:30 Chicago Fed National Activity Index

Tues 8/23:

10:00 New Home Sales

10:00 Richmond Fed Manufacturing Index

Weds 8/24:

9:00 AM FHFA House Price Index

9:45 PMI Manufacturing Index Flash

10:00 Existing Home Sales

Thursday 8/25:

First day of Kansas City Fed Econ Symposium in Jackson Hole, WY

8:30 Durable Goods Orders

11:00 Kansas City Fed Manufacturing Index

Friday 8/26:

8:30 GDP

8:30 International Trade in Goods

8:30 Corporate Profits

10:00 Janet Yellen’s speech from Jackson Hole

10:00 Consumer Sentiment

Will Fed Wait Until Dec to Raise Rates?

Seven years ago, the recession officially ended. According to the National Bureau of Economic Research’s (NBER) Business Cycle Dating Committee, the organization responsible for declaring the beginning and end of U.S. expansions and contractions, June 2009 was the nadir of the worst recession since the Great Depression. Yes, employment bottomed out six months after the official end date, but that NBER says that is to be expected, because a recession “is a period of diminishing activity rather than diminished activity.” In other words, although the economy was still weak after June 2009, with lingering high unemployment, it had expanded considerably from its trough 15 months earlier. Where does that leave us today? The U.S. has seen a sluggish recovery, but the economy is far better off than it was seven years ago, by almost every objective metric. That said, a seven year expansion seems ripe for a breather, which is why so many are worried about the next recession. Adding to the concern was a report last week from the World Bank, which downgraded global growth estimates. “Overall growth remains below potential” and “looking ahead, the prospects of global growth remain muted.”

As expected, the commodity exporters have been hit particularly hard, but even advanced economies are stymied by sluggish growth. U.S. GDP is likely to be about 2 to 2.2 percent this year, consistent with the pace experienced over the past few years and the last few jobs reports have shown deceleration.

Amid this environment, it’s hard to see how the Federal Reserve could possibly raise interest rates when it meets this week. Although many central bankers went on a speaking junket in May, telling us that the U.S. economy had shown enough progress that a rate hike would be appropriate in the “coming months,” but the recent jobs data, combined with the dour World Bank assessment, makes it nearly impossible for the Fed to budge this week.

Instead, it’s back to parsing the Fed’s accompanying statement, the updated FOMC projections and Chair Janet Yellen’s press conference, for any signals of when the next rate hike might come. The answer, according to Capital Economics, “depends on whether the weakness in payroll employment in not just May but April too was a temporary blip or the start of a more serious downturn.”

If hiring picks up and the U.K. votes to remain within the European Union on June 23rd, the next Fed meeting at the end of July could be a possibility, but it would be a long shot. The more likely possibility would be the September meeting. If not September, it’s hard to fathom Fed action in November, just days before the presidential election. Unless there is a big uptick in economic activity, the last policy of the year on December 13 and 14, the one-year anniversary of the first rate hike of this cycle, may be the first and only Fed rate increase of 2016.

MARKETS: As U.S. indexes flirted with all-time record levels, the real action was in the bond market. The yield of the 10-year U.S. treasury tumbled to 1.639%, the lowest close since May 2013. Additionally, yields of comparable bonds in Germany and Japan, fell to all time lows, as investors bet on the continuation of sagging growth and low inflation and found solace in the overall safety of the bond market.

• DJIA: 17,865 up 0.3% on week, up 2.5% YTD
• S&P 500: 2096 down 0.2% on week, up 2.6% YTD
• NASDAQ: 4894 down 1% on week, down 2.3% YTD
• Russell 2000: 1164, flat on week, up 2.5% YTD
• 10-Year Treasury yield: 1.639% (from 1.7% a week ago)
• July Crude: $49.07, up 0.9% on week
• August Gold: $ 1,275.90, up 2.7% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.38 (from $2.35 wk ago, $2.76 a year ago)

THE WEEK AHEAD:

Mon 6/13:

Tues 6/14:

FOMC Meeting Begins

6:00 NFIB Small Business Optimism

8:30 Retail Sales

8:30 Import/Export Prices

10:00 Business Inventories

Weds 6/15:

8:30 PPI

8:30 Empire State Mfg Survey

9:15 Industrial Production

2:00 FOMC Decision

2:00 FOMC Economic Projections

2:30 Janet Yellen Press Conference

Thursday 6/16:

8:30 CPI

8:30 Philly Fed Business Outlook

10:00 Housing Market Index

Friday 6/17:

8:30 Housing Starts

Murky January Jobs Report Will Keep Fed on Hold

The January jobs report did little to help the Fed prepare for its March policy meeting. The US economy added 151,000 jobs last month, slightly lower than expectations; and the unemployment rate edged down to 4.9 percent, the lowest level since February 2008, even as about half a million Americans joined the labor force. That’s progress, but the participation rate (the percentage of those who are in the labor force or actively seeking a job) of 62.7 remains at near 40-years. The broader measure of unemployment, which includes those who are not looking for work or who are working part-time because they can’t land full time positions, held steady at 9.9 percent. There was progress in several industries, which have seen consistent gains over the past year, including retail, food services and drinking places and health care. Manufacturing, which has been mired in a recession and saw essentially no job growth in 2015, added 29,000 new positions in January. The brightest part of the report was wage growth. Average weekly earnings were up by 12 cents an hour, which translated into a 2.5 percent annualized increase, close to a post-recession high.

This report complicates the Fed’s outlook. While job creation is decelerating, wages are accelerating, putting the central bank’s next move in March up in the air. In addition to concerns about a slowdown China, emerging market debt burdens and plunging oil prices, the central bank must now add this mixed message about U.S. employment to its list of “Why we should do nothing in March”.

Even before the January report, Fed Governor Lael Brainard said “Recent developments reinforce the case for watchful waiting.” And New York Fed chief Bill Dudley noted that the world has changed since the Fed’s December confab and “if those financial conditions were to remain in place by the time we get to the March meeting we would have to take that into consideration in terms of that monetary policy decision.”

Some have thought that the central bank made a big mistake by raising rates at the last December. Writing in the FT last week, economist Danielle DiMarino Booth noted, “The Fed had never before initiated a tightening cycle when the manufacturing sector was shrinking” and while employment gains in the final quarter of 2015 looked impressive, “History has shown time and again that labor market data are the most lagging and least predictive indicators.”

While the January data may seem less illuminating about the economy’s future direction, perhaps it’s murkiness makes clear that the Fed will likely pursue its watchful waiting and will skip a rate increase in March.

MARKETS: Investors should be rooting for the Panthers, according to the Super Bowl Indicator. When the winner of the big game comes from the National Football Conference (Carolina), the Dow rises 11.4 percent on average that year. But when the victor is from the American Football Conference (Broncos), it rises just 3.6 percent. Of course like any silly stat, don’t trade based on the outcome of the game…after all, in 2008, after the New York Giants of the NFC defeated the AFC’s New England Patriots, the Dow plummeted 34 percent and in 2013, when the AFC’s Baltimore Ravens won, the Dow soared by 26 percent.

• DJIA: 16,205 down 1.6% on week, down 7% YTD
• S&P 500: 1880 down 3.1% on week, down 8% YTD
• NASDAQ: 4363 down 5.4% on week, down 12.9% YTD
• Russell 2000: 985, down 4.8% on week, down 13.2% YTD
• 10-Year Treasury yield: 1.84% (from 1.93% a week ago)
• Mar Crude: $30.89, down 8.1% on week
• Apr Gold: $1,157.80, up 3.7% on week
• AAA Nat'l avg. for gallon of reg. gas: $1.75 (from $1.80 wk ago, $2.17 a year ago)

THE WEEK AHEAD:

Mon 2/8:

Hasbro

Chinese Stock Market closed for Lunar New Year (all week)

Tues 2/9:

Coca-Cola, CVS, Viacom, Disney

6:00 NFIB Small Business Optimism Index

10:00 Job Openings and Labor Turnover Survey (JOLTS)

President Obama releases FY 2017 budget

Weds 2/10:

Time Warner, Twitter, Whole Foods

10:00 Fed Chair Janet Yellen delivers semiannual testimony on monetary policy and economy before House Financial Services Committee

OPEC publishes monthly oil-market report

U.S. Energy Information Administration releases oil inventory report

Thursday 2/11:

CBS, Kellogg, Pepsico

10:00 Yellen testimony before the Senate Banking Committee

Friday 2/12:

8:30 Retail Sales

Import and Export Prices

10:00 Consumer Sentiment

3:00 Consumer Credit

Ready, Set, (Fed) Hike!

“I expect that it will be appropriate at some point later this year to take the first step to raise the federal funds rate and thus begin normalizing monetary policy.” - Federal Reserve Chair Janet Yellen, July 2015

This week, the central bank will do something that it has not done in over nine years: raise short-term interest rates. With the economy growing at a decent, though not great 2.25 percent annualized pace, 2015 monthly job creation averaging 210,000 and unemployment sitting at a seven-year low of 5 percent, Yellen and her cohorts have reiterated that now is the time to normalize policy.

This will be the first of many Fed actions that will eventually return rates to somewhere in the vicinity of 3.5 percent. How quickly they get there is up for discussion. Today the bond futures market anticipates that it will take around three years, but Yellen has said that the future path of interest rates will be entirely data dependent. If inflation rears its head, hikes may be quicker than the expected pace of every other meeting for the next three years. If the economy stalls, the central bank could pull back and skip a meeting.

Considering that it rates have been sitting at zero for seven years, it is helpful to review where we were then and where we are now. Though Americans may complain about slow growth, how quickly we forget what rotten looks like.

December 2008:

• Unemployment Rate: 7.2% (rate would top out at 10% in 2010)
• Job Loss (Dec): -681,000
• Q4 GDP: -8.2%
• S&P 500 12/12/08: 879

December 2015:

• Unemployment Rate: 5%
• Job Gain (Nov): +211,000
• Q4 GDP (est): +2.2%
• S&P 500 12/11/15: 2012

HOW WILL THE FED’S ACTIONS IMPACT INVESTORS?

Another big difference between where we are today versus seven years ago is that the Fed will be increasing rates with a balance sheet that has more than quadrupled through three rounds of bond buying (quantitative easing). How various markets will react to the first hike is unknown, because of the very fact that we are entering unchartered and choppy water.

Stocks: Typically, stock markets have dipped after the first rate increase, but usually regain their upward momentum, as long as the rate increase is in response to stronger economic activity. Stocks usually top out after the final increase. The last tightening cycle began with interest rates at 1 percent in June 2004 and ended with rates at 5.25 percent two years later. The stock market peaked in October 2007 and you know what happened after that!

Emerging markets are already feeling the effects, as investors exit risky bets in once high-flying markets like Southeast Asia, Brazil or Turkey. At the same time, US stocks are feeling the weight of sliding corporate profits. And while continued improvements in the economy and the slow pace of rate hikes could help equities regain more solid footing, many investors have forgotten how low interest rates made their stocks look attractive, relative to bonds.

Bonds: Billions of dollars have flowed into global bond markets over the past seven years, as nervous investors sought the safety of fixed income. Many investors are now fearful that rising interest rates will destroy the value of their bond positions. While it is true that as interest rates increase, prices on bonds that have already been issued, drops, that is not a good reason to abandon the asset class.

For most investors who own individual bonds, they will hold on until the bonds mature and then purchase new issues at cheaper prices/higher rates. For those who own bond mutual funds, they will reinvest dividends at lower prices and as the bonds in the portfolio mature, the managers will reinvest in new, cheaper issues with higher interest rates. In other words, being a long term investor should help you weather rising interest rates, though you may want to consider lowering your duration, using corporate bonds and keeping extra cash on hand. (For more on bonds, check out this post.)

HOW WILL THE FED’S ACTIONS IMPACT CONSUMERS?

In the seven years since financial crisis, companies, governments and consumers have gotten used to ultra-low interest rates. Here’s how the change in policy could impact you:

Savers: Any increase in the Fed Funds rate will help nudge up rates on savings accounts, so savers will finally be rewarded. That said, rates will still be low and the likely slow pace of increases will mean that savers’ suffering is not likely to end any time soon.

Borrowers: While rates for mortgages key off the 10-year government bond, adjustable rates are linked to shorter-term rates, which means that consumers should be careful about assuming these loans and also should consider locking in a fixed rate now. Additionally, as rates increase, the availability of 0 percent credit card and auto loans could diminish.

MARKETS: Oil, oil everywhere…and nobody wants to stop producing. Crude oil saw its worse week of the year, as evidence continues to mount that supplies are expanding amid withering demand.

• DJIA: 17,265 down 3.3% on week, down 3.2% YTD
• S&P 500: 2,012 down 3.8% on week, down 2.3% YTD
• NASDAQ: 4,933 down 4.1% on week, up 4.2% YTD
• Russell 2000: 1123, down 5% on week, down 6.7% YTD
• 10-Year Treasury yield: 2.14% (from 2.28% a week ago)
• Jan Crude: $35.62, down 10.9% on week
• Feb Gold: $1,075.70, down 0.8% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.01 (from $2.04 wk ago, $2.60 a year ago)

THE WEEK AHEAD: All Fed, all the time…

Mon 12/14:

Tues 12/15:

Fed begins two-day policy meeting

8:30 CPI

8:30 Empire State Manufacturing Index

10:00 Housing Market Index

Weds 12/16:

8:30 Housing Starts

9:15 Industrial Production

2:00 Fed rate decision/Economic projections

2:30 Yellen Presser

Thursday 12/17:

8:30 Philadelphia Fed Survey

Friday 12/18:

For Investors, Two Days Remain in 2015 (Jobs, FOMC)

Although the calendar says 33 days to go before we ring in 2016, for investors, there are exactly two days left in 2015: Friday, December 4^th and Wednesday December 16^th. Oh sure, there will be navel gazing over the results of the holiday shopping weekend. FYI, as it turned out, those door busters were a bit of a bust in brick and mortar stores, but they sure were effective in the digital arena. ShopperTrak reported that in-store traffic was down, but Adobe Digital index said consumers spent 14 percent more on Black Friday than last year and Thanksgiving online spending saw a 22 percent surge.

Regardless of the total holiday sales results, which will not be available for another month, there are far more important events ahead for the economy. Back to those two days…on Friday, the government will release the November jobs report. After a better than expected reading in October, when the economy added 271,000 jobs, the unemployment rate edged down to 5 percent and average hourly earnings increased by 2.5 percent from the previous year, hopes are high for follow through in November.

Economists predict nonfarm payrolls will rise by 190,000, with a range of 160,000-220,000. The unemployment rate will likely hold steady at 5 percent and earnings growth should slow from the quicker than expected pace in October, but is expected to show continued progress. .

If the jobs report comes in even at the low end of predictions, it would probably be enough ammunition for the Federal Reserve to raise interest rates at its two-day meeting, which concludes on the last important day for investors, December 16^th. Janet Yellen will have two opportunities this week to pre-sell the rate hike: a speech before the Economic Club of Washington DC and testimony before the Joint Economic Committee of Congress. Although lawmakers will try to flex their muscles and attempt to prod Yellen to elaborate on the Fed’s plans, don’t expect her to give away much more than she has already stated in public.

Although these two days will be pivotal, that is not to say that there will not be volatile trading days in the month of December. As asset managers reposition their portfolios for the year-end, there is always the possibility for a low volume swing in either direction. There is also likely to be continued chatter about the narrowness of leadership in stocks. The FANG stocks (Facebook, Amazon, Netflix and Google) are said to account for gains of about 60 percent this year, while the S&P 500 and NASDAQ Composite are up 1.5 and 8.3 percent respectively.

MARKETS: While you were surfing the web on Black Friday, you may have missed a 5.5 percent drop in the Chinese stock market. The plunge was attributed to a government investigation into brokerage firms, which is part of a broader legal, regulatory and anti corruption crackdown, following a year of market swoons. Even with the late-week sell-off, the Shanghai Composite is 21 percent above its calendar year nadir on August 26^th, though still remains 34 percent below its seven-year high on June 12^th.

• DJIA: 17,798 down 0.1% on week, down 0.1% YTD
• S&P 500: 2,090 up 0.1% on week, up 1.5% YTD
• NASDAQ: 5,127 up 0.5% on week, up 8.3 % YTD
• Russell 2000: 1202, up 2.5% on week, down 0.2% YTD
• 10-Year Treasury yield: 2.22% (from 2.26% a week ago)
• Jan Crude: $41.71, down 0.6% on week
• Feb Gold: $1,056.20, down 1.3% on week (lowest level in more than five years, down 45% from peak 4 years ago)
• AAA Nat'l avg. for gallon of reg. gas: $2.05 (from $2.09 wk ago, $2.79 a year ago)

THE WEEK AHEAD:

Mon 11/30:

Cyber Monday

9:45 Chicago PMI

10:00 Pending Home Sales

10:30 Dallas Fed Manufacturing

Tues 12/1:

Giving Tuesday

Motor Vehicle Sales

9:45 PMI Manufacturing

10:00 ISM Manufacturing Index

10:00 Construction Spending

Weds 12/2:

8:15 ADP Private Employment Report

8:30 Productivity

2:00 Fed Beige Book

Fed Chair Janet Yellen speaks at the Economic Club of Washington DC

Thursday 12/3:

10:00 Factory Orders

10:00 ISM Non-Manufacturing Index

10:00 Fed Chair Janet Yellen testifies before Joint Economic Committee of Congress

Friday 12/4

8:30 November Employment Report

8:30 International Trade

Janet Yellen Pulls an Emily Litella

There are just three more jobs reports before the December Federal Reserve policy meeting and each one is carries even more weight than usual. The September data are out this Friday and the consensus is for the economy to add 200,000 jobs and for the unemployment rate to remain at 5.1 percent. While the pace of job creation has slowed from last year (it was hard to imagine that we could sustain 300,000 per month), even the Fed had to admit that gains in the labor market have been “solid”. So what are the central bankers looking for to convince them that labor market slack is diminishing? My guess is that high on the list would be to see annual wage growth pick up from the sub-par 2 percent level and move towards 2.5 percent; an increase in the participation rate (the number of people employed or actively looking for a job); a continued drop in part time workers who are seeking full time positions; and a decrease in the number of long-term unemployed.

Although the jobs report is the main focus the week, the Fed is also likely to examine data on manufacturing. And spillover from the slowdown in China and other emerging markets is likely to be seen in that sector. If manufacturing indexes hold steady, it would likely provide some solace to Fed officials concerned about a global economic deceleration.

Meanwhile, last week, Yellen seemed to brush aside the China worrywarts, when she said “we do not currently anticipate that the effects of these recent developments on the U.S. economy will prove to be large enough to have a significant effect on the path for policy.” In that same speech, Yellen also said that she expects “inflation will return to 2 percent over the next few years as the temporary factors that are currently weighing on inflation wane”.

So if the labor market is solid, global slowdown worries are overblown and inflation is likely to gradually increase, why didn’t the Fed raise rates at the last meeting? As Weekend Update’s Emily Litella (Gilda Radner) would say “Never Mind”.

But wait; maybe Congress will trump the Fed’s rate increase mission. Even if lawmakers pass a continuing spending resolution to keep the Federal government open through December 11^th, that’s just FIVE days before the last Fed meeting of the year. It could be déjà vu all over again (RIP Yogi), as we hurtle to the end of the year, talking about the raising the debt ceiling and defaulting on our obligations. Isn’t this fun?

MARKETS: The biotech sector is under siege again, as it has been at various times over the past couple of years. The biotech index tumbled 13 percent on the week and is now in bear market territory, off 22 percent from its recent high in July.

• DJIA: 16,314 down 0.4% on week, down 8.5% YTD
• S&P 500: 1,931 down 1.4% on week, down 6.2% YTD
• NASDAQ: 4,686 down 2.9% on week, down 1% YTD
• Russell 2000: 1122, up 3.5% on week, down 6.8% YTD
• 10-Year Treasury yield: 2.17% (from 2.19% a week ago)
• November Crude: $45.70, up 1.5% on week
• December Gold: $1,145.60, up 0.6% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.29 (from $2.30 wk ago, $3.34 a year ago)

THE WEEK AHEAD:

Mon 9/28:

8:30 Personal Income & Spending

10:00 Pending Home Sales

Tues 9/29:

9:00 Case Shiller Home Price Index

10:00 Consumer Confidence

Weds 9/30:

8:15 ADP Private Payrolls

9:45 Chicago PMI

3:00 Fed Chair Janet Yellen speaks at Conf of State Bank Supervisors

Thurs 10/1: 9:45 PMI Manufacturing Index

10:00 ISM Manufacturing Index

10:00 Construction Spending

Fri 10/2:

8:30 September Employment Report

10:00 Factory Orders

The Fed Fails to Soothe Investors

Citing the slowdown in China and other emerging markets; a strengthening US dollar; global market volatility; and persistently low inflation, the Federal Reserve kept short term interest rates at 0-0.25 percent, which is where they have been for nearly seven years. Although the central bankers believe that these issues are “transitory,” they decided to err on the side of caution and do nothing. If Fed officials meant to soothe investors, they failed, at least in the short term. In the category of unintended consequences, the Fed’s inaction, which was meant to assuage, may have had the opposite effect, by reinforcing investors’ worries about the global economy. Previous fears about China’s growth, which caused the summer stock market correction, went straight to the front burner, despite scant evidence that the global slowdown has hit US shores.

Stocks edged lower the afternoon of the decision and tumbled the following session. Although a rate increase may have done even more damage to stocks, the fact that the Fed did not follow through on a rate increase, after telegraphing it for months, has led some analysts to question they can trust what officials are communicating to the public. Paul Ashworth of Capital Economics wrote “A few months ago it was Greece, now it is China. According to the Fed’s accompanying statement ‘recent global economic and financial developments may restrain economic activity somewhat." [His emphasis] In another couple of months it could be the debt ceiling or who knows what else that is generating the uncertainty.”

While the status of the world’s economy may be uncertain now, one thing is clear: median household income in the US is stuck. With all eyes on the Fed, few paid attention to the mid-week release of a Census Bureau report, which showed that median household income was $53,657 in 2014, an $805 decrease from 2013. This is the third consecutive year that the annual change was not statistically significant, following two consecutive annual declines.

More sobering is that when adjusted for inflation, the median household is 6.5 percent lower than it was in 2007 ($57,357), on the eve of the recession and 7 percent lower than it was 15 years ago in 2000 ($57,724), prior to the previous recession. (Income data from Sentier Research are a bit better, but show a similar trend—the median household income in July was 2.6 percent lower than when the recession started and 3.8 percent below January 2000 levels.)

Median income peaked in the mid-1990’s and since then, has gone nowhere fast. Despite hopes for overall wage gains in the current recovery, most of the progress on incomes has been clustered around the top 5 percent of all earners. The gap between high earners and low earners has increased 5.9 percent from 1993, the earliest year available for comparable measures of income inequality.

I hate to end on such a sour note, so perhaps wages will soon start to show improvement across all income levels. Chairman Janet Yellen said that the pace of job gains has been “solid” and fed officials raised their growth forecasts for this year, so maybe, just maybe, the income numbers will start to pick up. Even if they don’t, a sunnier outlook in the fourth quarter is likely to prompt the Fed to raise rates by a quarter-point, either in October or December. 

MARKETS:

• DJIA: 16,384 down 0.3% on week, down 8% YTD
• S&P 500: 1,958 down 0.2% on week, down 4.9% YTD
• NASDAQ: 4,827 up 0.1% on week, up 2% YTD
• Russell 2000: 1163, up 0.5% on week, down 3.4% YTD
• 10-Year Treasury yield: 2.19% (from 2.19% a week ago)
• October Crude: $44.68, down 0.01% on week
• December Gold: $1,137.80, up 3.1% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.30 (from $2.35 wk ago, $3.36 a year ago)

THE WEEK AHEAD:

Mon 9/21:

8:30 Existing Home Sales

Tues 9/22:

Weds 9/23:

Thurs 9/24: 8:30 Durable Goods Orders

10:00 New Home Sales

5:00 Janet Yellen Speaks at UMass/Amherst

Fri 9/25:

8:30 Q2 GDP (final reading)

10:00 Consumer Sentiment

Go Time for the Fed

Way back in July, Federal Reserve Chair Janet Yellen said: “I expect that it will be appropriate at some point later this year to take the first step to raise the federal funds rate and thus begin normalizing monetary policy.” Well, later this year is here. There are only three Fed policy meetings left in 2015, starting with the two-day confab beginning on Wednesday and concluding Thursday. After delivering that speech, the consensus was that the Fed would increase rates at the September meeting, but a funny thing happened over the past two months: China’s stock market plummeted, raising fears that the economy there had slowed down dramatically; raw commodity prices plunged, which has put global disinflation (a period when the inflation rate is positive, but declining over time) on the front burner; and global stock and currency markets entered a new, tumultuous phase.

All of the sudden, the September rate hike now looks less likely. In fact, traders now only see a 25 percent chance that the Fed will act this week. Of course, Yellen has always kept her options open. In that same speech, she said “I want to emphasize that the course of the economy and inflation remains highly uncertain, and unanticipated developments could delay or accelerate this first step.”

Economists and investors have long been agonizing over the timing of the Fed’s rate hike. Those who advocate action cite the improvement in the U.S. economy: 13.1 million jobs over the past 66 months and unemployment at 5.1 percent, which is lower than the levels seen at the beginning of the Fed’s last tightening cycle in 2004; auto sales running at their fastest pace in a decade; commercial real estate prices surpassing their bubble-era peaks; and residential housing strengthening. That impressive list of accomplishments makes it tough to justify interest rates still being at emergency levels of 0-0.25 percent, which is where they have been since December 2008.

Former Treasury Secretary Larry Summers is the cheerleader for the no-action camp. Last week, he said “Now is the time for the Fed to do what is often hardest for policymakers. Stand still.” Besides global uncertainty, Summers reminds us that part of the Fed’s dual mandate is to promote price stability and with disinflation infecting emerging markets and U.S. core inflation remaining stubbornly low, he is advocating that the Fed do nothing at this time.

All of this may seem like navel-gazing to you, but if the Fed is too late in raising rates, inflation might rise. According to Paul Ashworth of Capital Economics, “Historically, central banks have mostly erred on the side of raising interest rates too little and too late. The result is that inflation starts to spiral out of control, eventually forcing a more aggressive tightening of policy than would originally have sufficed.”

Then again, if the Fed acts too quickly, it could snuff out the recovery. Andrew Haldane, the Chief Economist at the Bank of England has noted, “The act of raising the yield curve would itself increase the probability of recession.”

WHAT DOES ALL OF THIS HAVE TO DO WITH YOU?

In the seven years since financial crisis, companies, governments and consumers have gotten used to ultra-low interest rates. Whether the Fed decides to increase rates this week, in October or in December, the low rate cycle is about to conclude. Here’s how it could impact you:

Savers: Any increase in the Fed Funds rate will help nudge up rates on savings accounts, so savers will finally be rewarded. That said, rates will still be low and the likely slow pace of increases will mean that savers’ suffering is not likely to end any time soon.

Borrowers: While rates for mortgages key off the 10-year government bond, adjustable rates are linked to shorter-term rates, which means that consumers should be careful about assuming these loans and also should consider locking in a fixed rate now. Additionally, as rates increase, the availability of 0 percent credit card and auto loans could diminish.

Investors: Typically, stock markets have dipped after the first rate increase, but usually regain their upward momentum, as long as the rate increase is in response to stronger economic activity. Stocks usually top out after the final increase. The last tightening cycle began with interest rates at 1 percent in June 2004 and ended with rates at 5.25 percent two years later. The stock market peaked in October 2007 and you know what happened after that!

Finally, billions of dollars have flowed into global bond markets over the past seven years, as nervous investors sought the safety of fixed income. While few are advocating selling out bond positions, to help protect your portfolio against the eventual rise in interest rates, you may want to consider lowering your duration, using corporate bonds and keeping extra cash on hand. (For more on bonds, check out this post.)

MARKETS:

• DJIA: 16,433 up 2% on week, down 7.8% YTD
• S&P 500: 1,961 up 2.1% on week, down 4.7% YTD
• NASDAQ: 4,822 up 3% on week, up 1.8% YTD
• Russell 2000: 1157, up 1.8% on week, down 3.9% YTD
• 10-Year Treasury yield: 2.19% (from 2.13% a week ago)
• October Crude: $44.81, down 3.1% on week
• December Gold: $1,107, down 1.6% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.35 (from $2.40 wk ago, $3.41 a year ago)

THE WEEK AHEAD:

Mon 9/14:

Tues 9/15:

8:30 Retail Sales

8:30 Empire State Manufacturing

9:15 Industrial Production

10:00 Business Inventories

Weds 9/16:

8:30 Consumer Price Index

10:00 Housing Market Index

Thurs 9/17: 8:30 Housing Starts

2:00 FOMC Decision/Econ Projections

2:30 Yellen Presser

Fri 9/18:

Quadruple Witching

10:00 Leading Econ Indicators