On Friday, the Federal Reserve outlined a slightly more aggressive approach for rate increases similar to its positioning a year ago in December. In December 2015, the Fed was signaling a much more aggressive path for interest rate increases. However, anomaly events in 2016 including global factors and the U.K.’s Brexit vote have kept the Fed from moving forward. As a result of the slowed pace in 2016, market investors were slightly surprised by the Fed’s return to its aggressive policy tightening plans.
Despite the slowed pace of rate increases in 2016, the economy has continued to gain with all of the Fed’s key indicators improving. These improvements and the outlook for them will continue to drive the Fed, which has indicated two rate increases could potentially be enacted this year.
A look at the key indicators also focused on last week by Federal Reserve officials shows the rationale for a more aggressive approach.
Employment – Labor market conditions have been improving significantly with June payrolls up 287,000 and July payrolls following with another strong increase of 255,000. The unemployment rate is at a healthy level below 5% at 4.9% in July.
Inflation – The Fed’s inflation target is stable with the PCE Index up 0.8% annually. The PCE Index, excluding food and energy, is also approaching the Fed’s 2% objective at 1.6%.
GDP – The latest reading on GDP was positive with a seasonally adjusted annual rate of growth for the second quarter of 1.1%, after an increase of 0.8% in the first quarter.
In morning trading Monday, stocks recovered some of their losses from last week with the Dow Jones Industrial Average up 0.58% at mid-day led by DuPont, JPMorgan, Travelers and IBM.
JPMorgan (JPM, Financial) 1.13%
Travelers (TRV, Financial) 1.10%
While stocks are regaining some ground on Monday, it is likely that the Fed’s refocused comments on Friday could slow equity momentum slightly which for investors means added investing caution in equities. With two potential rate increases in 2016 and more aggressive positioning for 2017, the added yield incentive for equities is likely to slow. Additionally, investors will also need to see more evidence of corporate profit improvement on top of the GDP gains to continue believing in equity market momentum. The BEA’s first report on second quarter corporate profits showed a decrease of -2.2%, basically unchanged from a decrease of -2.3% in the first quarter. The second estimate of corporate profits on Sept. 29 could be as important to equity market investors as Friday’s labor market report is for the Fed.
A CNBC report Monday provided additional insight on the Fed’s rate increases and the affects for investors.
Disclosure: I do not own any stocks included in this article.
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