Federal Reserve Rate Rise

Jeff Keen's thoughts on the latest Fed rate rise

As expected, the Federal Reserve increased interest rates by 0.25% last night, which in itself will not change the macro outlook for the markets significantly.  However, there is still a material divergence between the median Fed expectation for rate rises and those priced in by the markets, as outlined in the graph below.  The Fed’s median forecast for the end 2016 rate is still 1.4% which equates to roughly four further hikes. This compares to market expectations (illustrated by the red OIS line) of only two equivalent hikes over the same period.

Federal Reserve and Market Interest Rate Expectations:

Source: Bloomberg

The market will therefore still need to watch the Fed’s policy as it wrestles with a core rate of inflation of 2% versus a weak manufacturing sector which is struggling with a strong US Dollar.

In our view, the difference between the Fed’s and the market’s expected path for rates in 2016 means that risks for US Treasury bond markets are skewed to the downside, especially as the labour markets show strength and as core inflation continues to rise from a low base.

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