March 17, 2017

The dollar and US Treasury yields fell sharply this Wednesday afternoon, following the FOMC 25bps raise. Equities on the other hand rallied. While this may have surprised some, the market was reacting to what the Fed said rather than to the rise itself, which was 100% expected. There were a couple of dovish hints in the FOMC statement – with the structural rate of unemployment being scaled down marginally and the Fed now looking for a ‘sustained’ return to the 2% inflation target. Furthermore, one Fed president dissented which had not been expected. The Fed’s message to the market is ‘Stay calm…we’re going slow’.

For anybody that has covered the markets for a while, it may feel like deja vu. The players may be different but, if memory serves me correctly, it feels something like 2005/06 where the Fed was slow in raising rates and inflation was picking up. At the time, I wrote that the Fed was walking a rate cycle tightrope – on the one hand they were being slow in raising to keep the market going (but which was also driving mal-investment higher) and, on the other, they were trying to reign in rising inflation. A tough juggling act to follow and we all know how it ended.

We may still be at the early stages of the process, but the outcome in time will likely be similar. For the moment though the music is still playing and risk assets, particularly non-US, are likely to be supported. Have a great weekend ahead. Rob