Balanced Risks Support Three Rate Hikes in 2018

The futures market implies it’s a given that the FOMC will increase its targeted fed funds range by 25 bps to 1.50%‒1.75%, the highest rate since October 2008, during its upcoming meeting on March 21st.  The market is also assigning a better-than-75% chance the Fed raises rates a second time this year at the June FOMC meeting. Beyond that, the market is assigning slightly more than a 50% chance that the Fed raises rates again in September. We believe the Fed has its work cut out for it as it weighs a solidly growing economy and tight labor market against an inflation rate that refuses to budge much above 1.5% (as measured by the PCE Core Index). 

It appears the economy is poised to benefit further from massive fiscal stimulus, something FOMC Chair Powell pointed out in late February during his “unusually confident” first testimony before the House Financial Services Committee, where he remarked that “headwinds have turned to tailwinds.”  However, other headwinds are present, such as:  the growth in populist politics, the unwinding of the Fed’s $4.5 trillion balance sheet, the EU nearing the end of their bond buying program, and the specter of tariff-induced trade wars. These factors have led to an increase in volatility and a rise in interest rates.

Although we expect the recent rise in volatility to continue throughout the year, we also believe that risks to economic growth and inflation are skewed to the upside. In our view, the most likely scenario is that the economy will experience healthy GDP growth in 2018 and into 2019, while not overheating or falling into a recession.

 

The views expressed herein are presented for informational purposes only and are not intended as a recommendation to invest in any particular asset class or security or as a promise of future performance.