Today, March 20, 2019, a FOMC rate hike decision was made. It is official-the FED can’t keep its spoiled child in check.
First, you will find below the FED’s dot plots from December and today. The dot plot is a tool that the FED uses to convey to the market what the Federal Funds Rate will be in the future.
Using the upper range of the current Federal Fund’s Rate of 2.5%, we can analyze the swing in the projection. On December 19, 2018, 15 of the 17 dots were above the 2.5% line for 2019 projection. Today, only 6 of the 17 dots are above the line for 2019 projection.
So, why did this happen?
Below, you will find a graph of the FED Funds Futures. The first one is for what the market was predicting the FED Funds Rate would be on March 20, 2019 over time. After the December stock market meltdown, the market began projecting that the FED would be close to capitulating, employing the “Powell Put,” or saving the market…whatever you want to refer to it as.
Think of the market as a spoiled child and the FED as its parent. In December, the market sold off violently. Essentially, the market threw a tantrum and the FED came in and said it would be less hawkish going forward like a parent getting its child to shut up by buying it a present. The child liked this and as you can see by the chart below, the probability of the FED Funds Rate being 2.75% by the March meeting plunged from around 40% to 0% and the probability of it remaining at 2.5% skyrocketed from around 50% to 100%. This led to the market appreciating by roughly 20% since the December lows!
So what’s the issue? Below, you will find that the FED Funds Futures chart for January 20, 2020. The market expects the FED Funds rate to be 2.5% with a probability of over 60%. In short time, I expect this number to reach near 100%.
Each time the market throws a tantrum, the FED has less presents to give. The next present that will be given is most likely a rate cut. Once that game begins, the FED only has presents for the market from 2.5% to 0%.
I leave you with two questions.
Do you think that the buffer zone to cut from 2.5% to 0% is enough to levitate markets indefinitely?
What happens if inflation shows up in the CPI and the FED is forced to raise rates without the market’s blessing?