Markets & Economy

Too Close to Call

Too Close to Call View all 5 contributors

With the specter of a potential policy error looming, the question of a 2015 U.S. rate rise hinges on December’s Federal Reserve (Fed) meeting. Hear managers from across six of BNY Mellon’s investment boutiques, outline their views on what will drive a Fed decision and whether it will be 2016 before rates move.

Ahead of the October 28 meeting the Fed funds futures rate was pricing a 34.7% probability of a December rate hike and the morning of the 29th saw this rise to 48%, according to Bloomberg figures. U.S. jobs data and the strength of the dollar will be integral in the run up to the next US Fed’s rate meeting in December, say senior investment professionals from Insight Investment, Alcentra, Standish, Newton, The Boston Company Asset Management (TBCAM), and Mellon Capital. However, even if these key indicators appear soft ahead of the meeting, the Fed may raise rates anyway, which some believe may lead to a policy error; on the other hand, others believe waiting until 2016 may also be a wrong step.

Jason Celente, senior portfolio manager at Insight Investment in North America, says: “We thought it was a mistake not to raise rates in September; a missed opportunity. Provided the Fed is committed to moving rates this year, when you do not go then you’re really boxing yourself in to go in December, even if the data comes in as soft as it has.”

The Fed has become very data dependent, says TBCAM’s senior managing director Todd Wakefield. However, he also believes the Fed wants to get one rate hike under their belts this year. He adds: “The market has told them by not raising they are creating uncertainty and volatility, so I think they want to have one hike and be done for a while unless the economic data gets a lot stronger. I believe they’ll raise in December and then not hike again for several quarters after that.”

While Newton’s global strategist Peter Hensman agrees with the premise that the Fed announcement means it is likely to move at the end of the year, he believes at some point in the future this may be considered a policy error. The Fed justifies the case for a rate increase by focusing heavily on the cumulative improvement in the labor market, he says, and assumes that this will feed into a wage-price spiral. “With little evidence that increases in wage costs are transferring into corporate pricing power, a rate increase that adds further upward pressure to the U.S. dollar, and challenges financial conditions, may ultimately be viewed as a policy error.”

Alcentra portfolio manager Chris Barris believes March 2016 may be when U.S. rates finally increase. “The Fed will be paying attention to the employment figures which have been a touch softer in the past month. One set of data points we’ve been paying close attention to recently is manufacturing, which has shown consistent softness in the past few months.

“Based on the minutes from the Fed’s September meeting as well as October’s, they’re considering things beyond the U.S., so we’re looking for further stabilization in the global markets. We’re also concerned about the stronger dollar, and whether that could be exacerbated by rate hikes. The stronger dollar is having an impact on corporate earnings as we’ve seen over the past few weeks, and the Fed is watching to see what this means for domestic employment. The rest of the world is in accommodation mode and the stronger dollar will play a role in how the Fed proceeds.”

Barris is not the only one looking at the U.S. dollar. Wakefield says despite the fact the Fed appears more hawkish than it has been, much will depend on the dollar’s strength. “If the trade-weighted dollar were to go up another 5% on top of the increase we have seen already over the past 12 months, I think it would cause them to push out the rate increase.”

TBCAM is also watching jobless claims. Wakefield says: “I’ve noticed a lot more layoffs over the past few months, and not just in the energy sector.” Sinead Colton, global investment strategist at Mellon Capital, notes there are two employment data releases prior to the Fed’s December meeting that will be critical to making a decision. Ultimately, she says, “what matters for the Fed’s timing is the level of US economic growth and unemployment.”

Raman Srivastava, co-deputy CIO at Standish, says much has changed since the September meeting of the monetary policy committee – some for the good but some also for concern in respect of a 2015 rate rise. This makes it a tough call as to whether the Fed will raise rates this year or next, he says. “A lot’s changed since the last meeting. Three of the main drivers of volatility at that time were China, commodities and the dollar. The three factors have all stabilized even if the situations have not materially changed. I believe that’s why the Fed removed the reference to the global economy from its report at October’s meeting. On the other hand, U.S. labor and employment data has changed for the worse,” he concludes.

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The statements expressed in this commentary are those of the author as of the date of the article and do not necessarily represent the views of Dreyfus or its affiliates. The views expressed are subject to change rapidly as economic and market conditions dictate, and the statements in the commentary should not be construed as an offer to sell or a solicitation to buy any security. The commentary is provided as a general market overview and should not be considered investment advice or predictive of future market performance.


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