This afternoon, at the eighth and final Federal Open Market Committee (FOMC) meeting of 2016, the Federal Reserve (Fed) raised interest rates 25 basis points to put the Federal Funds target rate range at 0.50% to 0.75%. LPL Financial Research believes that this trend will continue and expects the Fed to enact two additional 25 basis point increases in 2017.
What does this mean? It means that in an improving economy, the Fed is mandated with attempting to keep inflation under control, while promoting full employment for the American people. Raising rates is a mechanism they utilize to keep the economy from overheating too much and keeping inflation from rising too quickly. It is a fine line dance and the markets are always trying to anticipate if the Fed is on the mark or too fast or slow to the game. A two-year Treasury Note in July 2016 yielded 0.55% and today it yields 1.27%, the highest since 2010. During the same period, the ten-year Treasury has risen 115 basis points and is currently yielding 2.57%. This can be challenging for bonds because when interest rates rise, bond prices drop, so this has been a concern for us and our investors.
The stock market has shown no concerns of late. Since the election, the Dow 30 Industrial Average has risen from 17,888 on election day to today’s price of 19,793. An amazing event, considering that no real events have occurred other than Donald Trump winning the Presidential election. I read a good line the other day, “the Federal Reserve reacts to what the economy is doing, while the stock market reacts to what is being said”. What is being said is Mr. Trump appears to be moving his government to be in a low tax, low regulation, pro-business direction. These words have brought equity prices to a fairly rich valuation and no one knows short term whether this trend continues as what is being said becomes reality, or if reality proves to be a bit more challenging and stocks hiccup. Longer term, it is compelling to think that rising bond yields have a ways to go before they impact a competitive drain on stocks. It is also difficult to see Mr. Trump not doing in general, some of what is anticipated and how that also would benefit stock prices down the road. Concern exists that Mr. Trump will decide to do something extreme and/or unanticipated and that is an unknown that we have to just wait and see on.
One of the current areas of concern is we (the United States) are the strongest economy in the world right now. Our dollar is highly valued against foreign currencies and it makes importing easy and exporting difficult, so our trade deficit is challenged. Economies, like Europe continue to struggle and it isn’t clear yet if our success helps pull them up or does it hinder our growth and others? Our strong dollar does help in some ways – it makes it a good time to travel internationally and you can benefit from the greater buying power our currency represents. As, always this is the time of year to appreciate all we have and to count our blessings. Happy Holidays to you all – Mark
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. No strategy assures success or protects against loss. Economic forecasts may not develop as predicted. Some of this research material has been prepared by LPL Financial. All indices are unmanaged and may not be invested into directly. Referenced material: LPL Research Weekly Economic Commentary & LPL Research Weekly Market Commentary, both dated December 12, 2016. Approved Reference #: 1-564278.