Investment Clock insights

A dovish(ish) Fed hike


Melanie Baker

20 December 2018

The Federal Open Market Committee (FOMC), as expected, raised rates by 25bps, with their projections implying one fewer rate rise next year. However, the signals sent in the statement and forecasts weren’t as dovish as we had expected, e.g. only making a small adjustment to their language around “further gradual” hikes (by adding the word “some”).  A more cautious signal from the US Federal Reserve (Fed) could have been justified (and would have been welcomed by equity markets) given the tightening in financial conditions and weaker global growth backdrop. However, the domestic economic data has looked strong enough to suggest that we aren’t at the peak of the rate cycle quite yet.
More cautious projections: The FOMC’s median economic projections now imply two hikes in 2019 (three previously). Their GDP growth forecast is a touch lower this year and next, as are their inflation forecasts.  Their range for the neutral Fed funds rate (longer-run projected Fed funds rate) was unchanged at 2.5% - 3.5%, but with the median a little lower at 2.8% (3.0% previously), bolstering the signal that we are close to the peak in rates for this cycle.
Watching markets and global growth: They did add some additional language in the statement around continuing to monitor global economic and financial developments and there was plenty of emphasis on data watching in the press conference.
Cautious in the press conference too: The comments in Powell’s press conference emphasised that the Committee are on a less clear rate path now they have reached the “bottom end of the range of estimates of neutral”, with more uncertainty around the “path and the destination”.
We have pencilled in two more rate rises next year, which would be in line with what the FOMC’s economic projections now signal;  the US economy continues to outperform, labour markets look tight and pay growth has been rising. However, tighter financial market conditions and signs of some loss of momentum in the US economy (e.g. in the Purchasing Managers’ Indices (PMIs)), suggest a reasonable chance that US rates will take an extended pause sooner than expected.

The Federal Open Market Committee (FOMC), as expected, raised rates by 25bps, with their projections implying one fewer rate rise next year. However, the signals sent in the statement and forecasts weren’t as dovish as we had expected, e.g. only making a small adjustment to their language around “further gradual” hikes (by adding the word “some”).  A more cautious signal from the US Federal Reserve (Fed) could have been justified (and would have been welcomed by equity markets) given the tightening in financial conditions and weaker global growth backdrop. However, the domestic economic data has looked strong enough to suggest that we aren’t at the peak of the rate cycle quite yet.

More cautious projections: The FOMC’s median economic projections now imply two hikes in 2019 (three previously). Their GDP growth forecast is a touch lower this year and next, as are their inflation forecasts.  Their range for the neutral Fed funds rate (longer-run projected Fed funds rate) was unchanged at 2.5% - 3.5%, but with the median a little lower at 2.8% (3.0% previously), bolstering the signal that we are close to the peak in rates for this cycle.

Watching markets and global growth: They did add some additional language in the statement around continuing to monitor global economic and financial developments and there was plenty of emphasis on data watching in the press conference.

Cautious in the press conference too: The comments in Powell’s press conference emphasised that the Committee are on a less clear rate path now they have reached the “bottom end of the range of estimates of neutral”, with more uncertainty around the “path and the destination”.

We have pencilled in two more rate rises next year, which would be in line with what the FOMC’s economic projections now signal;  the US economy continues to outperform, labour markets look tight and pay growth has been rising. However, tighter financial market conditions and signs of some loss of momentum in the US economy (e.g. in the Purchasing Managers’ Indices (PMIs)), suggest a reasonable chance that US rates will take an extended pause sooner than expected.

Past performance is no guide to the future. The value of investments and the income from them is not guaranteed and may go down as well as up and investors may not get back the amount originally invested. The views expressed are the author’s own and do not constitute investment advice.