Rate hike fears hit fever pitch Friday, stirred by the one-two punch of a nicely positive jobs report and commentary from Richmond Fed head Jeffrey Lacker, who said June looks like high time for a hike. (A rate hike, not a mountain stroll.) Stocks sold off, with many wagging an accusatory finger at Fed fears. Similarly, Tuesday, when outgoing Dallas Fed Chief Richard Fisher echoed Lacker’s thoughts and stocks dropped, many presumed causality. And who knows, maybe they’re right—perhaps stocks did swing short-term on such fears. But stocks can swing in a day for any or no reason—we would caution against extrapolating this to mean a hike is coming and the results will be bad. No one can reliably forecast Fed hikes, and there really is no history suggesting initial rate hikes are a scourge for stocks. But also, present conditions suggest America’s economy can handle a hike.
For what it’s worth, Lacker and Fisher are nothing if not consistent. February 10th of this year, Lacker told reporters, “At this point, raising rates in June looks like the attractive option for me.” Heck, as long ago as May 2014, Lacker was pointing to Q2 2015 as a potential time to hike. Prior to that, his forecasts suggested a rate hike would have been necessary before the end of 2014, and he dissented in every policy decision in 2012—the last year he was a voting member of the Federal Open Market Committee before 2015—arguing policy didn’t need to be so loose.
A Summer Hike for the Fed
In September 2014, Fisher (no relationship to Ken Fisher, Fisher Investments’ CEO and my boss) said he “…personally would want to see, the date of our first move, I personally expect it to occur in the spring and not in the summer….” We guess that is compatible with a June hike, considering the scheduled meeting is June 16-17, days before the summer solstice. Last July, he called for a hike in early 2015—or “even sooner.” Some in the media believe these two are merely part of a larger Fed effort to get the word out regarding potentially higher rates.
Maybe! But we’d suggest not reading a lot into these gentlemen’s calls for a hike. The Fed has proven time and again talk of rate hikes is awfully cheap. That advice, though, isn’t specific to the two alleged hawks. The Fed might hike, it might not. It isn’t foreseeable. No one has cracked the Fed’s Enigma Machine code and derived a formula for twisting Fedspeak into actionable information. That may be because it’s mostly marketing spin, as former Fed head Ben Bernanke noted in a 2008 meeting. Or it might be that the decision will be based on factors that evolve with time.
The Fed has always said the decision hinges on members’ interpretations of economic data. There are 10 voting members in 2015. Lacker is but one. Fisher isn’t a voting member this year and won’t be looking forward either, because he is stepping down at the end of March. Even if you successfully forecast the data—itself extremely difficult—how can you forecast humans’ (potentially biased) interpretations? Not all are as consistent as Messrs. Lacker and Fisher. They flip and flop.
Trying to predict hike timing is folly. And it’s unnecessary. As Exhibit 1 shows, history just doesn’t support the notion stocks are negatively affected by an initial rate hike.
Exhibit 1: Initial Rate Hikes and Stocks
FactSet and Federal Reserve, as of 1/9/2015. MSCI World Index price return, 12/31/1969 – 12/31/2006.
Why don’t rate hikes have a bigger impact? Simple! Short rates, alone, don’t determine whether credit loosens or tightens. The yield curve—the spread between short-term and long-term interest rates, a proxy for bank lending’s profitability—influences that far more. The first hike typically doesn’t materially affect the yield curve much. That usually happens later, if the Fed overshoots—like Alan Greenspan in 2000. Exhibit 2 shows how long the yield curve stayed positive after initial hikes.
Exhibit 2: Rate Hikes and the Yield Curve
Some suggest a semblance of “this time it’s different” because rates have been between zero and 0.25% for more than six years. But let’s consider: Is it really so hard to fathom an economy that has grown for six years, led by a vibrant private sector, a below-average unemployment rate, rising loan growth and leading economic indicators can handle rates somewhere north of zero? We aren’t talking about a hike going from zero-to-sixty, we’re talking about going from zero to a little bit more than zero. Ultimately, these fears resemble fears over QE’s end, and if you haven’t noticed, the Fed ended QE, and the bull market is alive and well.
Fisher and Lacker may have been off in their earlier estimates of hike timing. They may be again with their soon and June comments now. But on one point, we clearly agree with them: The US economy is easily capable of handling a hike.
By Todd Bliman, Fisher Investments
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