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Today, Federal Chairman Jerome Powell addressed members of Congress to update them on the economy, inflation, and reasons for increasing the federal fund’s rate. Since your time is valuable, I have summarized and paraphrased the 2.5 hour meeting.
As you likely are aware, the Federal Reserve announced that it would be raising interest rates 0.75 percentage points, following its June 14-15 meeting, bumping the federal funds rate to a target range of 1.50 to 1.75 percent.
The Federal Reserve has two mandates: maximum sustainable employment and price stability.
After watching Federal Chairman Jerome Powell share his comments on inflation before the Committee on Banking, Housing, and Urban Affairs today, here is what I heard:
The Federal Reserve increasing the federal funds rate causes the following:
- Demand for interest rate sensitive items to decrease (vehicles/ housing)
- Asset prices in general to decrease
- Dollar to strengthen
Recent record inflation started before the Ukraine invasion and blaming it solely on Russia is not fair, nor correct.
The Federal Reserve decreasing the federal funds rate does not really affect the price of gas (energy) and food.
Fuel at the pump is primarily driven by two things: 1) prices set globally by large oil producing countries and cartels and 2) the oil refinement spread to convert oil into usable products (such as gas at the pump). Neither is controlled, nor can be controlled by the Federal Reserve.
Employment is extremely tight—meaning that the portion of candidates to available jobs is low and the competition to hire them can be fierce. Chairman Powell said that currently, there are two job vacancies for every one person looking for work.
According to Chairman Powell, the financial conditions and markets have already priced in the future anticipated interest rate increases that the Fed has indicated they will be doing over the foreseeable future. He said that markets are reading the Fed’s response well. According to the schedule, the Fed interest rates will likely be around 3.0% to 3.5% by the end of the year.
Powell, after listening to several Congressmen and Congresswomen share their constituent’s concerns about inflation, had this to say the following which I have paraphrased: Inflation destroys public confidence. We are using our tools and the public should believe that we will get it down to 2% over time. We can help with the demand side and can slow down the demand of goods and services by raising the federal interest rates.
Consumers have healthy balance sheets and continue to spend due to their savings. Consumers make up a healthy portion of our GDP. No one is very good at forecasting recessions and can’t do it consistently.
The Federal Reserve Board and board members have a tough job ahead of them. Their goal is to get inflation under control by dampening the demand for goods and services to allow the supply side to recover post-Pandemic. If they raise rates too high or too quickly, it could send the U.S. economy into a recession. If they don’t do anything, inflation can remain elevated and get into American’s psyche.
If you are still concerned about your portfolio and how much risk you may have in your portfolio, or whether you are on track to achieving your financial goals, please click here to schedule a no obligation coffee or call with us.
Chairman Powell’s Prepared Comments
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In this latest podcast, we interview Dr. Jeff Roach, our director of research, on 4 Reasons Not to Worry About a Trade War. But first, a little backstory:
What Happened This Week?
On Wednesday and Thursday this week, the Dow dropped nearly 1,380 points. While 1,300 points sounds like a lot, the Dow Jones Industrial Average began Wednesday at more than 26,400. So the decline ultimately represented a loss of just over 5%. In other words, the U.S. stock market is back where it was in roughly mid-July. Keep in mind, the Dow Jones Industrial Average (DJIA), or simply the Dow, shows how 30 large, publicly owned companies based in the United States have traded during a standard trading session in the stock market. It only represents 30 large companies and is a relatively small sample of companies compared to the broad U.S. market and an even smaller sample when comparing to the global markets.
Why do stock markets increase or decrease?
A stock moves up or down in price because of investor sentiment. If investors believe a stock is worth more than its current price, it moves up. If they believe it’s worth less, it moves down. Stock markets are immediately responsive to what investors believe. These beliefs generally are formed more in response to investor emotion – how they feel about the stock price – than directly from an analysis of the stock’s metrics –such as improved or declining earnings, the price-to-earnings ratio or earnings per share.
So Why Did the Stock Market Drop?
As often occurs after a big market move, traders, news media, and taxi cab drivers offer up several explanations for what happened to the stock market. Here are two possibilities:
One has to do with President Trump’s trade war with China. While the Trump administration has been talking about China for months, it upped the ante in late September by slapping a 10% duty on $200 billion worth of Chinese consumer goods. The China tariffs are expected to jump to 25% in January. The trade stand-off could hurt both the U.S. and Chinese companies, by raising production costs and crimping consumer spending, which could affect GDP.
Also in late September, the U.S. Federal Reserve raised interest rates for the third time this year. Those moves are meant to reduce the risk of inflation, which has been finally beginning to tick up as the U.S. economy gains steam. Higher interest rates hurt stocks by making bonds a comparatively more attractive investment, and by making it more expensive for companies to borrow and invest.
So what can you do?
First, make sure your portfolio is prepared to weather the next storm. Second, ensure it is aligned with your risk tolerance and goals, and third, have a sound investment philosophy. We would be honored to serve you and your family and may provide a complementary portfolio review if you are concerned.
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The Federal Reserve ‘s Federal Open Market Committee, or FOMC, announced the third rate hike of 2018 this week, a move that was widely expected. But you may be wondering, why did they increase the Federal Reserve’s Fund rate, and what is the purpose of the Federal Reserve, anyway. On this podcast, I’ll interview Dr. Jeff Roach, our Director of Research on the purpose of the Federal Reserve.
The Federal Reserve System, often referred to as the Federal Reserve or simply “the Fed,” is the central bank of the United States. It was created by the Congress to provide the nation with a safer, more flexible, and more stable monetary and financial system. The Federal Reserve was created on December 23, 1913, when President Woodrow Wilson signed the Federal Reserve Act into law.
Since 1977, the Federal Reserve has operated under a mandate from Congress to “promote effectively the goals of maximum employment, stable prices, and moderate long term interest rates” — what is now commonly referred to as the Fed’s “dual mandate.”
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On this podcast, I’ll interview Dr. Jeff Roach, our Director of Research on where we may be in the credit cycle. This is important to understand as the Federal Reserve’s next meeting is scheduled for Sept. 25-26.
The credit cycle is the expansion and contraction of access to credit over time.
During an expansion of credit, asset prices are bid up by those with access to leveraged capital. This asset price inflation can then cause an unsustainable speculative price “bubble” to develop. The upswing in new money creation also increases the money supply for real goods and services, thereby stimulating economic activity and fostering growth in national income and employment.
When buyers’ funds are exhausted, an asset price decline can occur in the markets which had benefited from the credit expansion. This can then cause insolvency, bankruptcy, and foreclosure for those borrowers who came late to that market. This, in turn, can threaten the solvency and profitability of the banking system itself, resulting in a general contraction of credit as lenders attempt to protect themselves from losses.