Market Turbulence and US Interest Rates

Janet Yellen, of California, President Barack Obama's nominee to become Federal Reserve Board chair, testifies on Capitol Hill in Washington, Thursday Nov. 14, 2013, before the Senate Banking Committee hearing on her nomination to succeed Ben Bernanke. (AP Photo/Jacquelyn Martin)

Interest rates maintained

The Federal Reserve (Fed) took the decision to hike federal fund rates in December 2015 to 0.25% to 0.5% for the first time in seven years post the 2008 financial crisis. On the other hand, this move by Fed led to turmoil in the markets as investor’s believed that the slowdown in the economy has not ended. Accordingly, the S&P 500 (INDEXSP: .INX) plunged over 9.6% from the starting of the year till February 12, 2016 while the Dow Jones Industrial Average (INDEXDJX: .DJI) lost around 9.3% during the same period. Moreover, concerns over the rate hike leading to tightening of the economic cycle, and inflation, which are the core factors for deciding further rate hikes also led to the pressure in the markets.


On the other hand, Fed has reported that they would reduce the number of rate hikes to two rate hikes from their earlier estimated of four hikes given the ongoing tough market conditions in the US economy. During the recent Fed meeting, they maintained their interest rates of 0.25% to 0.5% on track with the December levels but hinted that they might consider hiking interest rates in June which would tighten the monetary policy even though there is a slowdown in the U.S. economy. Accordingly, the Dow Jones Industrial Average 2 Minute (INDEXDJX:.DJI) and S&P 500 (INDEXSP: .INX) fell by 0.3% and 0.5% respectively on April 29, 2016.


Fed Reserve Policy (Source: Bloomberg)


Mixed Economic data

Meanwhile, the US economy continues to be challenging while the recent April consumer sentiment Index declined to 89.0 as compared to 89.7 level during the middle of the month and against 91.0 in March 2016. The data suggested that the April’s readings have been lowest from September 2015, raising concerns over the confidence in the jobs and income outlooks. Inflation data results for the US have also been volatile wherein the one year forecasts rose by one-tenth to 2.8% while the five year forecasts fell two-tenths to 2.5%. The recent consumer confidence index was also flat, a major indicator that is restricting the better forecasts for the second-quarter. PMI Manufacturing Index which was released on May 03, 2016 reached 50.8 lower than the consensus estimate of 51. This index hints that the manufacturing sector is being flat. Moreover, despite the new orders rising modestly during the month, the export orders contracted at the fastest pace in more than a year, and are not indicating any improvements. Moreover, the recent rise in oil prices also did not boost capital spending in the energy sector.


FED Funds Rate Hike Poll (Source: Reuters)


However, the recent mixed data from some of the economic indicators in the US have been raising debate among investors over a possible interest rate hike in the next FOMC meeting to be held in June. As per Bloomberg, consumer spending data supported the first-quarter of 2016 real GDP in the US to a certain extent which reported an annualized plus 0.5% rate, but below the Econoday consensus for 0.7 percent. The Consumer spending (personal consumption expenditures) improved at a 1.9% rate, which is lower by only 5 tenths as compared to the fourth quarter of 2016. There was a 14.8% jump in Residential investment during the period balancing the 5.9% fall in nonresidential investment owing to poor energy drilling. Nonetheless, inventories rose during the quarter which is an unfavorable indicator for GDP confirming an ongoing poor global demand. Bloomberg also indicated that price data was mixed wherein the price index rose by just 0.7% during the quarter, but down two-tenths as compared to the fourth quarter. However, the core deflator rose seven-tenths higher to plus 1.9 %.


While debates on a possible interest rate hike in June by Fed are ongoing, the mixed US economic data is leading to a lack of clarity over the Fed’s move over a potential interest rate hike in the coming June.

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