It was a crystal clear morning in Western Kansas as I travelled west along Interstate 70. From my rearview mirror, I watched as the sun rose above the horizon behind me. Along the way, a certain highway sign also caught my eye. Appearing repeatedly at a multitude of mile markers along my way, the sign read, “This section of highway was the first of the interstate system,” and the start of one of the largest ongoing Federal projects.
At a gas station, guys with ZZ-top-inspired beards were milling around the coffee pot, grabbing shots of caffeine and snippets of conversation before heading out to the ranch or to repair a nearby pipeline break. The talk centered on their impending concerns or interests: the deteriorating weather and an upcoming Kansas versus Kansas State game. There was no mention of Janet Yellen, the Federal Reserve, or inflation. So, I thought, why am I obsessing about the Fed?
Newton’s First Law of Motion states, “Every object in a state of uniform motion tends to remain in that state of motion unless an external force is applied to it." The same can be said for short-term interest rates, with the Fed being the ultimate outside force in this market. As a result, the upcoming Open Markets Committee meeting has developed an aura of being the largest Fed event of the year. After 7 years of a Zero Interest Rate Policy (ZIRP) maybe, just maybe, the committee members will assess the economy from on high— and issue the “all clear” warning.
A number of sources and surveys estimate that there is about a 70% expectation by those nebulous “market participants” that the Fed will make it’s move in December. I happen to think so too, but I do not think that they should.
WHAT THE FED’S LOOKING AT
Fed members have for years stated that they should not raise rates until employment has returned to a satisfactory level and inflation has risen to about the 2% level. And that when both are achieved, we may conclude the following: 1) the economy is accelerating nicely; 2) such growth should continue; and 3) most households are benefitting from the growth. Watching the cascading news releases, however, I’m not sure it fair to draw such extensive conclusions.
There is support for the Fed’s position, including:
- Official unemployment statistics show a return to “full employment” at 5.0%
- Some year-on-year inflation figures are moving up.
- An overheard radio report notes that hotel rates in Denver are up 7% over the past year, with a similar national pattern. As a frequent traveler I can certainly attest to that.
- Cars are being sold briskly and the airports are full.
- The price of homes and the status of the housing market continue to feel warm.
- There appears to be, for the first time in a very long time, indications that some wage rates are rising.
WHAT I’M LOOKING AT
The above points make for a reasonable argument. However, on the flip side of the coin, the news and the markets paint a different picture:
- There are daily stories of large layoffs at major companies worldwide.
- Earnings estimates from many companies are being revised down.
- Energy costs are down significantly, nearly 25% for gasoline in the last year for example, while oil prices continue to test new lows.
- Commodity prices continue to drift lower, indicating a moribund economy.
- The bellwether U.S. 10 Year Treasure Note, now priced in the free market at near 2.30%, may, in the opinion of traders on inflation, remain well below 1.00% over the next decade.
- Despite the wage pressure, Annual Real Median Income remains below levels seen in 1997, 17 years ago.
- Corporate activity appears to be focused on stock buybacks, corporate combinations, and inversions rather than large announcements of new investment.
- After 6 straight years of positive returns, year-to-date stock prices have not advanced.
In a recent Wall Street Journal advertorial for his new book, former Fed Chairman Ben Bernanke wrote, “Full employment without inflation is in sight. The Fed did its job.” Current Fed officials are suggesting the economy is healed and that it is time to raise rates. I can’t say that I’m in agreement. This feels more like an injured patient rushing from the hospital with breathing equipment still attached. Whether the Fed chooses to act in December or not, I'm looking towards more uncertainly and volatility as the economy attempts to stagger forward and international events keep cropping up.