For those of you fearful that today’s blog lesson will involve a graphing calculator, you will be thankful to learn that it does not. It involves something far more gray than the black and white of mathematics.
This week is full of central bank meetings and announcements. The Bank of England gets together on Thursday, and the consensus among analysts is that they will likely raise their overnight interest rates by .25% to 5.50%.
The Bank of Japan also meets on Thursday, and analysts expect them to keep their target interest rate range at -.1% to 0%. Traders will be highly attentive to any language that would indicate future changes in interest rates or in Japan’s substantial quantitative easing program that is keeping interest rates artificially low.
Preceding these meetings, the Federal Reserve started their meeting on Tuesday and plan to unveil their decision this afternoon. The decision itself is unlikely to make headlines. Both analysts and the traders fully expect that the Federal Reserve will maintain its current target range (5.25%-5.50%) for its overnight interest rates.
What is far less predictable are the comments Chairman Jerome Powell will offer at the ensuing press conference and Federal Reserve Open Market Committee’s updated dot plots.
Past press conferences have focused on how “data dependent” the Federal Reserve will be when setting future rate policies. He recently described their current approach as “navigating by the stars under cloudy skies.”
Recent economic reports could give the Federal Reserve some hope that they may be heading toward the rare and improbable economic soft landing – bringing inflation under control without creating a recession.
Consumers are starting to spend less. Consumers may not like this because they are sacrificing aspects of their lifestyle, but they are eating out less frequently over the last three months and reining in other spending as well.
Additionally, both auto loan and credit card delinquencies are starting to rise. Again, this is not good news for those that are facing these challenges. However, if a rising number of consumers have stretched themselves too far by overspending, it increases the odds of reduced future consumer spending.
Perhaps the most anticipated follow-up from this meeting is the revised “dot plots” which are updated every three months. The dot plots show (anonymously) every committee member’s vision of future target interest rates over the next few years and in the longer term.
The June 2023 dot plots showed that committee members were fairly consistent in their views on target interest rates for 2023. Nine committee members saw the target interest rate ending the year around 5.50%. Only three members thought it would be higher. Six members thought it would be slightly lower.
The June dot plots showed no consistency in views for the target interest rate in 2024 and 2025. In 2024, predictions ranged from 3.50% to 5.75% and in 2025 they ranged from 2.25% to 5.50%. Such a wide range is fairly unusual and speaks to the challenges the Federal Reserve faces in taming inflation while skirting a recession (particularly in an upcoming election year).
Traders will be looking at September’s new dot plots very closely to discern whether committee members are shifting their views about how long interest rates will need to remain at an elevated level before inflation concerns dwindle. We will learn whether the markets have appropriately priced assets for future interest rate risk.
Traders will likely react negatively if committee members’ dots collectively plot higher than expected in 2024 and 2025. To stock traders, higher interest rates for longer mean slower economic growth, more borrowing costs, and increased recession risk. To bond traders, higher interest rates for longer mean previously issued bonds are worth less as their interest payments are below current market interest rates.
This week could be a bumpy week in what is typically a bumpy month, but the overall impact on your long-term financial plan will likely be minimal.
Quote of the week: Sir Isaac Newton: “I can calculate the movement of the stars, but not the madness of men.”