Dec 17, 2014 | Post by: Roman Chuyan, CFA Comments Off on Don’t Fret the Fed: Policy Changes Are Priced-In

Don’t Fret the Fed: Policy Changes Are Priced-In

The Federal Reserve was originally on track to raise short-term target rate in the middle of 2015. However, at the April 28-29 meeting, many officials were doubtful that a rate increase would happen in June, as criteria would not be met. It was reported last month that the economy only grew at an annual rate of 0.2% in the first quarter and the growth rate was expected to decrease. The industrial production and retail sales have been disappointing and inflation has been below the 2% target.

The Fed also updated its projected fed funds rate for the midyear of 2016 to 1.10%. The 2-year Treasury yield is currently 0.64% and the 1-year yield is 0.24%. Using the forward rate math, we figure that the implied 1-year rate at the midyear of 2015 is about 1.04%. Market expectation is now basically the same as the Fed’s.

Fed officials have been signaling that they would likely begin raising the short-term target rate some time this year, with the exact timing subject to economic data. Though job growth rised in April and the unemployment rate declined to 5.4%, a few economic output indicators have still been disappointing. Core inflation – currently at 1.8% – is below the Fed’s target of 2%,In my view, there is no reason to be anxious about the upcoming rate increase ­– it is widely expected and largely priced-in by markets. Just like the end of the QE in October 2013, the rate increase will likely end up being a non-event.

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