To no surprise, the Federal Reserve voted to raise its short-term interest rate target yesterday. The move brings the federal funds rate – the overnight lending rate between banks – to a range of 0.50% – 0.75%. The market expected this move based on recent Fed governor comments and the trends of its two primary bogeys: employment and inflation. With unemployment at 4.6% and inflation moving toward the 2% target, the planets were in alignment for the rate move. No doubt the committee members were also influenced by President-elect Trump’s stated policy agenda of fiscal stimulus, tax reform and regulatory reform, all of which should serve to spur U.S. economic growth (although there was no mention of these considerations in the Fed’s post-meeting statement).
Although the Fed met near-term expectations, markets sold off yesterday as investors assessed the latest “dot plot” which details the anticipated trajectory of rates over the next few years. The chart indicates three rate increases in 2017, an increase from two in the Fed’s September statement. More rate increases translate to higher borrowing costs which could stilt the impact of Mr. Trump’s intended policy actions, giving investors pause. But, a lot of factors will determine the future path of interest rates – investors shook off their initial concerns and the equity rally resumed today.
At WCM, we view the Fed’s actions as progress towards interest rate and central bank policy normalization. As asset allocators, we look forward to the time when market returns are driven by corporate earnings, economic fundamentals, and valuation, rather than monetary policy manipulation.