Fed Dots Ignored as Investors Focus on Yellen’s Message

U.S. Federal Reserve Chair Janet Yellen
Janet Yellen, chair of the U.S. Federal Reserve. Photographer: Pete Marovich/Bloomberg

Investors trying to anticipate Federal Reserve interest-rate policy are ignoring the dots and focusing on Chair Janet Yellen’s words.

Fed officials yesterday released forecasts, represented as dots on charts, showing that starting next year interest rates would rise from zero faster than previously expected. Equity markets rallied on Yellen’s pledge of monetary stimulus for as long as necessary to achieve the central bank’s goals. European stocks also rose in today’s trading.

Yellen brushed aside concerns about quickening inflation, diminishing labor-market slack and asset-price bubbles in a prepared statement and press conference, emphasizing the Federal Open Market Committee’s view that rates are likely to stay low “for a considerable time.”

The rally in financial markets that followed pushed the Standard & Poor’s 500 stock index and MSCI All-Country World Index to all-time highs. The moves marked a turn away from the Fed’s published rate forecasts that became a focus of investor attention after officials in March abandoned guidance tied to inflation and unemployment.

The Stoxx Europe 600 Index climbed 0.6 percent as of 9:54 a.m. in London, while the MSCI Asia Pacific Index advanced 1.3 percent to a six-year high.

“All the evidence is that this is the weakest economic recovery on record, so she is going to tilt the committee in the direction of providing as much aid as possible for as long as it takes,” said Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ Ltd. in New York.

Yellen’s press conference followed a decision yesterday to continue reducing the pace of bond purchases intended to keep long-term borrowing costs low. The Fed said it would cut purchases by another $10 billion, to $35 billion, keeping it on pace to stop the program late this year.

Slow Pace

Yellen repeated that the Fed is likely to make further reductions in “measured steps” and that it expects interest rates to stay low after the buying ends. She declined to offer a more specific timetable for the first rate increase since 2006, saying there’s “no mechanical formula.”

The S&P 500 Index rose 0.8 percent, while the MSCI All-Country World Index advanced 0.6 percent. The Chicago Board Options Exchange Volatility Index, known as the VIX, lost 12 percent to 10.61, the lowest level since 2007. The measure of volatility has dropped 23 percent this year and is near its record low reached in 1993.

Even investors in the bond market ignored the move up in the median estimate by officials for the federal funds rate in the next two years. Officials predicted the rate will be 1.13 percent at the end of 2015 and 2.5 percent a year later. In March, they saw 1 percent at the end of next year and 2.25 percent in 2016.

Yield Declines

The yield on the 10-year Treasury note dropped seven basis points, or 0.07 percentage point, to 2.58 percent at 5 p.m. in New York, according to Bloomberg Bond Trader prices.

The median rate is calculated from a series of anonymous dots, or pin-point forecasts, that accompany officials’ outlook for growth, unemployment and inflation.

As she has in the past, Yellen downplayed the significance of the rate forecasts.

“Around each of those dots, I think every participant who’s filling out that questionnaire has a considerable band of uncertainty around their own individual forecast,” she said.

David Robin, managing director and interest-rate strategist at Newedge USA LLC, the derivatives and futures arm of Societe Generale, said “the dots don’t matter.”

Lower Rates

“Her goal was to take advantage of the press conference and the statement and recapture the lower rates for longer message,” Robin said. “She nailed it.”

Investors in interest-rate futures and U.S. Treasuries were preparing for the possibility of a slightly more aggressive message from the Fed chair on when rates would would rise.

The consumer price index rose 2.1 percent in the 12 months through May, the most since the year ended October 2012, and the economy has averaged a monthly gain in non-farm payrolls of 214,000 for the first five months of 2014.

The unemployment rate stood at 6.3 percent in both April and May -- at the top end of Fed officials’ March predictions of where it would be at the end of the year.

Yellen took a wider view of the employment situation, saying in her opening statement that “a broader assessment of indicators suggests that underutilization in the labor market remains significant.”

Dudley’s Idea

Adding to investors’ anticipation of rate-rise signals was a March 20 speech by New York Federal Reserve Bank President William Dudley, who spoke of the need for gaining policy “flexibility” by raising the benchmark lending rate from zero.

Global bond investors were also primed by Governor Mark Carney’s comments earlier this month that the Bank of England could raise rates there earlier than anticipated.

Yellen told reporters that the CPI has “been a bit on the high side” while adding that the recent “data that we’re seeing is noisy.” She added that inflation broadly speaking “is evolving in line with the committee’s expectations.” While employment has improved, she emphasized weaknesses in the labor market.

“The Fed is maybe a little bit in denial about recent inflation trends,” said Laura Rosner, an economist at BNP Paribas in New York. “For now, they could get away, maybe, with keeping their characterization unchanged. If the trend continues, that’s going to be a lot harder.”

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