by Ralph Cole, CFA
Executive Vice President of Research
Never Can Say Goodbye
Market volatility has historically increased before and around Fed tightenings and 2015 is apparently no exception. The Federal Reserve has now held short-term interest rates at essentially 0 percent for nearly 7 years. This policy was deemed necessary to faster recovery from the Great Recession, the biggest financial crisis since the Great Depression. The good news is that the medicine has worked and the “patient”, the U.S. economy, has been out of intensive care for a number of years.
While the U.S. economy is doing fine to varying degrees, the rest of the world appears to be struggling, especially emerging markets. Higher U.S. interest rates will hurt countries that have dollar denominated debt. Slow growth and heavy debt loads have sent emerging market stocks plunging to 5 year lows. Furthermore, if an economy outside of the U.S. has debt that is denominated in U.S. dollars, a stronger dollar hampers their ability to pay back that debt.
All of these factors are now weighing on the Fed’s decision to embark on a tightening cycle. Many believe that a delay is in order because of recent market volatility. On the other hand, Fed governors have signaled that market volatility is not reason enough to delay. Today’s jobs report did not bring much clarity to the situation. Unemployment fell to a new cycle low of 5.1 percent, and jobs grew 173,000 in August. Revisions to the prior 2 months employment growth added another 44,000 jobs than previously estimated. The market sold off today because those numbers might be strong enough to justify tightening in September. The jury is still out on these decisions and we will simply have to wait and see what the data dependent Fed decides when they meet in two weeks. We continue to believe that modestly higher rates would be a “good” thing and are confident that the U.S. economy can handle slightly higher interest rates in the coming year.
Our Takeaways for the Week
- Market volatility always accompanies the onset of a Fed tightening cycle
- Despite higher rates, the U.S. economy and stock market can continue to prosper
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