With Larry Summers withdrawing from the race for Fed Chairman, Janet Yellen, who has been considered by many to be less hawkish, is now the front-runner. For the record, “hawks” are predominantly concerned with interest rates as they relate to fiscal policy.
We believe this news, along with the other factors covered in this post, may counter a rising interest rate environment. Hence, a slower reduction to Fed purchases or stimulus in general would seem favorable for equity markets. This appears to be the case Monday morning with S&P 500 futures pointing to a strong open.
Now let’s talk through some points on the interest rate front. My property taxes increase 25% every four years. I’m not really sure this is fair, because my property value has not increased proportionally. I hope this housing market rebound is sustainable!
So what is helping me stay in my house? Low interest rates of course! Although we’ve seen a recent spike higher with mortgage rates, my rate is locked in at a low level. Also, the housing market doesn’t show signs of a trend reversal. Yes, it has slowed with the recent increase in rates, but forward housing supply remains low and prices have been on a steady upward trend. Other positives to consider are that housing affordability remains near all-time highs and employment numbers, while not strong, continue to improve (which should further support home prices). Remember, the trend is your friend!
With the Fed meeting finally upon us, we anticipate an announcement noting a 10 to 15 billion dollar monthly reduction in Fed purchases of bonds. This won’t help rates but to a large extent, the market has probably built this into current prices given the exhaustive media coverage and speculation over the taper. Initially, the Fed expected to fully end purchases by June 2014, although this now appears to be overly optimistic. Changing the supply demand equation will push rates higher in time. The question still remains, “When?” and “How much?”
What is on the other side of rising rates? In a word, PLENTY!
Do we see strong global GDP? No.
Do we see signs of inflation trending higher? No.
Are personal consumption rates increasing? No.
Remember, my taxes are rising so I cannot spend more unless I earn more. And for most of us, we have not seen wage inflation. This past week retail sales rose less than forecasted. Is there slack in capacity utilization and labor? Yes.
Some supporting charts to take a look at we feel will keep the rise in rates at bay:
PCE (Personal Consumption Expenditures) trending down
CPI (Consumer Price Index – A measure of inflation)
GDP Growth
Don’t forget to add all of this our U.S. deficit situation and the recent rise in federal tax rates. In other words we still have a ways to go on the path to recovery. Think of it this way, it’s less a matter of just jumping over hurdles in a track race, but more akin to having to navigate the messy obstacles found in a Mud Run course. As the economy tries to clean off the muck, September promises to bring some surprises.
What economic numbers we are watching this week
Monday – Industrial Production
Tuesday – Consumer Price Index
Wednesday – Housing Starts and FOMC
Thursday – Existing Home Sales
