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Fed Begins Making Up for Lost Time


For those of us who currently feel a bit behind on our holiday shopping, much solace can be taken in knowing we are not nearly as behind the curve as the Federal Reserve (Fed).

As expected, the Federal Open Market Committee (FOMC) concluded its December meeting by raising the target range on the federal funds rate by .25%, to a range of .50% to .75%. This rate hike served as the first and only one of the past calendar year as Fed guidance and market expectations have now honed in on three rate hikes in the year ahead. If this all sounds familiar, it is because we are close to exactly where we were one year ago.

In first looking at the facts of the day, the Fed’s official statement cited “realized and expected labor market conditions and inflation” as the words sharing the sentence with the announcement of the rate hike itself. Other modest revisions since the November statement included “job gains have been solid in recent months” and “market-based measures of inflation have moved up considerably but still are low.” However, on the whole, substantive wording throughout the statement changed very little. Perhaps one might say that when rate hikes are long overdue, the verbiage surrounding them is far from breathtaking.

In her post-meeting news conference, Fed Chair Janet Yellen gracefully answered a slew of questions regarding the pending economic agenda of the Trump administration and how increases in fiscal spending and reductions in tax rates might influence the Committee’s monetary policy over the upcoming year. Her answers were non-committal, summarizing the environment as too early to judge how these potential changes might impact Fed policy, though she reiterated the economy has made “considerable progress” toward the Fed’s dual objective of maximum employment and price stability. She also renewed the Committee’s expectations of inflation reaching 2% “over the next couple of years.”

Now for the underlying reality of this Shakespearian-like tragedy that was the year of 2016 for the Fed. The simple fact is, in the mere 38 days since the presidential election, the market influence of the Fed has decreased, and the Fed is no longer the catalyst behind changes in longer term interest rates. That honor now belongs to brute market forces reacting to the pending economic policies of the new administration, or what some might call a vigilante bond market at work. Since the weekend prior to the election, the 10-year Treasury yield has jumped almost 80 basis points (from 1.79 to 2.57%), and in the equity markets the Dow Jones Index has risen almost 2,000 points (11%) while the S&P 500® has increased 8%. All of this has occurred while the Fed did precisely what it had done all year – nothing.

We believe these market forces will likely continue until the Fed catches up to a rate environment properly matching future expectations of economic growth and inflation. That will probably be sometime in the second half of 2017 at the earliest. Having been the center of attention since the financial crises and Great Recession – in essence holding the only microphone on stage where all in the audience hung on their every word – in little more than a month’s time this Fed has essentially been transformed from rock star to roadie. The Fed will no longer control the venue for at least the next six months or so, and it will therefore simply be along for the ride with the rest of us.

As we have said before, the enduring legacy of this Fed will likely be the one sentence included in every statement since the Committee raised interest rates last December which reads “However, the actual path of the Federal Funds Rate will depend on the economic outlook as informed by incoming data.” This is the foundation behind this Fed’s reputation as the “Data Dependent Fed,” analyzing the numbers month-to-month to ensure any change in rates were thoroughly justified. In doing so, this FOMC set itself up to be quickly passed over on the morning of November 9, and now it must adjust quickly to remain relevant.

We believe that in the meantime, while the Fed makes up its lost ground, look for interest rates and stock prices to continue forging ahead in the new year.

Tom Wald is responsible for overseeing the investment and mutual fund product development functions and sub-adviser selection process. He also actively publicizes Transamerica’s investment thought leadership and products to advisors, clients, and the media. Wald has more than 25 years of investment experience and has managed large mutual funds and sub-advised separate account portfolios. He holds a bachelor’s degree in political science from Tulane University and an MBA in finance from the Wharton School at the University of Pennsylvania. He has earned the right to use the Chartered Financial Analyst® (CFA®) designation.

Investments are subject to market risk, including the loss of principal. Asset classes or investment strategies described may not be suitable for all investors.

The information including in this article should not be construed as investment advice or a recommendation for the purchase or sale of any security. This material contains general information only on investment matters; it should not be considered as a comprehensive statement on any matter and should not be relied upon as such. The information does not take into account any investor’s investment objectives, particular needs, or financial situation. The value of any investment may fluctuate. This information has been developed by Transamerica Asset Management, Inc. and may incorporate third-party data, text, images, and other content to be deemed reliable.

Transamerica funds are advised by Transamerica Asset Management, Inc. and distributed by Transamerica Capital, Inc.