At its last meeting on March 18, the Federal Open Market Committee (FOMC) stopped saying that it can be “patient” in beginning to normalize interest rates. The Fed added that it was unlikely to boost its policy rate in April. As a result, few in the financial markets expect much of a change in the Fed’s policy statement after it meets this Wednesday.
So what should investors expect? There are three particular areas we suggest investors focus on this Wednesday, in order of occurrence:
1) The Fed’s assessment of economic conditions: Since the March meeting, economic data have been mixed, requiring updates to the Fed’s economic assessment. It might be difficult, for example, for the Fed to characterize job growth as “strong” following the weak jobs report for March, unless the Fed wants to convey a more general longer-term perspective. The same could be said for business spending, which has been a bit weak of late. On the inflation front, there is better news for the Fed: Inflation readings have surprised modestly on the upside.
2) Risks to that outlook: This is potentially the most important part of the statement because it is not the first quarter’s economic weakness that matters, but what the Fed expects next. The Fed in March characterized the risks to the outlook as “nearly balanced.” This is likely to be retained because the underlying fundamentals for U.S. growth remain favorable. Any change would further delay the game, so to speak, and result in rate hike expectations being pushed out to the end of 2015 or into 2016.
3) The Fed’s current policy stance: The Fed in March provided two primary conditions for a rate hike: “Further improvement in the labor market,” and a requirement that the FOMC be “reasonably confident that inflation will move back to its 2 percent objective.” This is likely to be retained.
We believe data will be strong enough to elicit a rate hike this year, probably in September, but it is important to stay focused on the entirety of the path of rate hikes, more than the start date. We expect the path to be both slow and shallow, and likely to remain supportive of equity and credit throughout the next three to five years.