The Daily Prophet: Maybe The Fed Should Boost Rates More Often

Connecting the dots in global markets.

The Federal Reserve couldn’t have hoped for a better outcome. It raised interest rates, reaffirmed its plan to hike them two more times this year and still managed to spark an impressive rally in bonds and stocks while weakening the dollar.

Heading into the meeting, markets were set up to hear a hawkish tone, but what they got was a balanced message that signaled the economy and inflation are neither too hot nor too cold. In other words, a Goldilocks-like economy. The tone reassured markets that the Fed wasn’t “behind the curve” or that it felt the need to raise rates three more times before year-end. The benchmark 10-year Treasury note jumped, pushing yields down the most since January. That’s right -- the Fed boosted rates and borrowing costs actually fell. 

The Fed sees the economy expanding 2.1 percent with inflation in check at 1.9 percent. At her press conference, Chair Janet Yellen said that officials haven’t discussed “in detail” potential changes to their outlook for rates. “This was a dovish outcome by any measure,” Aaron Kohli, a fixed-income strategist at BMO Capital Markets, wrote in a research note.

The S&P 500, which was already rising amid a rebound in the oil market, rallied further as utility and real estate shares led the way. The 0.84 percent gain was among the biggest of the year, the most since March 1’s 1.37 percent surge, and comes with corporate profits starting to grow again. With the earnings season nearing its end, about three-quarters of S&P 500 firms that have reported fourth-quarter results exceeded profit estimates and about half beat sales forecasts, according to data compiled by Bloomberg. It also helped that the dollar fell, making the shares of exporters look more attractive.

Perhaps the Fed is most pleased with the reaction of the dollar, which weakened as the central bank signaled that it still only sees two more rate hikes this year. In the past, Fed policy makers have suggested that the dollar’s strength and its potential to curb exports had given them pause. The Bloomberg Dollar Spot Index fell as much as 1.29 percent, the most since July. It’s now down 2.84 percent for the year after soaring 7.15 percent in the fourth quarter of 2016. The biggest winners against the dollar today were South Africa’s rand, Mexico’s peso (see below), and Brazil’s real.

It’s been a tough couple of weeks for oil bulls as the price of crude was hammered lower, to well under $50 a barrel, amid fresh concern that global supplies were on the rise and OPEC’s agreement to control output was in jeopardy of falling apart. Today, it was the bears who were caught out as oil rallied the most in three weeks after Energy Information Administration report showed U.S. stockpiles unexpectedly declined last week, falling by 237,000 barrels. That’s the first weekly decline since December. Citigroup Inc. recommends buying oil now as OPEC output cuts aimed at easing a global glut are “real” because the Saudis are likely to defend prices this year. The bank’s comments are similar to those of Goldman Sachs Group Inc., which called for investors to be patient and said they should go, or stay, long on oil. 

Mexico’s currency continues to be red-hot. Since bottoming on Jan. 19, the peso has appreciated some 14 percent, the most among 31 major currencies tracked by Bloomberg. To put that in perspective, the next biggest gainer, the South African rand, has risen just 5.96 percent. The Trump administration threw some love toward its southern neighbor today when Peter Navarro, who as head of the White House National Trade Council will play a leading role in the effort to re-negotiate the North American Free Trade Agreement, said in an interview the U.S. wants Mexico and Canada to unite in a regional manufacturing “powerhouse” that will keep out parts from other countries. That’s certainly a softer tone toward Mexico than investors have come to expect over the last year from those connected to President Donald Trump.

One down. Many more to go. The Fed isn’t the only central bank to meet this week. Up next are the central banks of Japan, the U.K., Switzerland, Norway and Chile. Perhaps the most interesting will be the Bank of Japan in a few hours. Although no change in policy is expected, investors will be looking for any clues policy makers send on the outlook for asset purchases. The Bank of Japan owns so many bonds that trading has withered and financial institutions that need them are having difficulty getting them, according to Bank of America Merrill Lynch strategists. Also, higher U.S. interest rates may strengthen the dollar at the yen’s expense, creating inflationary pressure in Japan and nudging the BOJ closer toward its 2 percent target.

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