Planning and Investing in a Fluid Interest Rate Environment

As promised, the Federal Reserve’s monetary policy committee raised interest rates by a quarter of a percentage point at its March 15 meeting. Chair Janet Yellen had suggested the hike would be appropriate if economic markers—in particularly GDP rates, jobs, and consumer spending—improved over a slight slump from at the start of 2017 determined to be mostly ‘transitory.’

Since the March hike, the economy has seen further improvements, particularly in employment rates and consumer spending. Inflation is running close to the ‘optimal’ 2% rate. As of May, the benchmark short-term fed-funds rate remains between .75% and 1%. Nonetheless, two additional small (.25%) rate hikes are predicted for 2017. The first is expected at the June 14 meeting. The Fed will continue to watch to ensure the economy doesn’t show signs of adverse reaction to the March and (presumed) June increases. If it remains stable, we should see another hike in September or December.

Not surprisingly, there is a debate about the merit and likelihood of these rate hikes. On the one hand, advisors like Cleveland Federal Reserve President Loretta Mester recommend the Fed move forward with additional hikes, cautioning that moving too slowly could “risk a recession.”[1] On the other, St. Louis Fed President James Bullard suggests the current policy benchmark rate is appropriate where it is (88 basis points), based on the mathematical Taylor Rule.[2]

What do the hikes mean for businesses, consumers, and lenders?

Most analysts, pundits, and futures traders predict that if the economy continues on pace and the Fed is bullish, we’ll see the two additional hikes in 2017, followed by three .25% increases both in 2018 and in 2019. Even though we can’t predict exactly what political, economic, and other factors might shape the actual outcomes over the next six to 24 months, businesses, lenders, and consumers can expect a few changes:

  • The 10-year Treasury note will grow from its current rate of 2.5% to 3% by the end of 2017, particularly if the proposed Trump tax cuts and spending increases go through
  • The Fed will continue to replace maturing securities in its $4.5-trillion portfolio—41% of which is in mortgage-backed securities—causing a bump in mortgage rates if/when the course reverses
  • The average 30-year fixed mortgage rate will rise to 4.6%
  • The average 15-year fixed mortgage rates will hit 3.8%

As is the case whenever major political and economic decisions are in flux, many businesses and individuals are struggling to decide what to do with their investments. HORNE recommends that you stay informed and act with a conservative mindset.

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[1] http://www.marketwatch.com/story/feds-mester-warns-against-going-too-slow-with-interest-rate-hikes-2017-05-08/print

[2] http://www.foxbusiness.com/markets/2017/05/08/fed-bullard-says-target-interest-rate-is-close-to-where-taylor-rule-recommends.html

Topics: Regulations, Interest Rates

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