21 Mar 2014 Fed Chair Janet Yellen Connects the Dots
Janet Yellen’s first Federal Open Market Committee policy statement as Fed chair caused a bit of a ruckus in both the Treasury and stock markets. As experts have pointed out, it wasn’t so much what she said, but rather what the “dots” portend for future interest rate hikes.
There was no surprise when the Fed announced they would continue to reduce their monthly purchases of Treasuries by $10 billion per month to a still very large $55 billion starting in April. The sell-off of short and intermediate Treasuries was triggered, according to Barrons by a chart of projections showing FOMC members’ expectations of where the fed funds rate would be at the end of 2015.
What the dots reveal is the current best guess of where rates will be in the next couple of years by the actual folks who will set them. The dots, or guesses represent a significant increase from a median of 1% in 2015 and 2.25% in 2016. The last meeting, under Ben Bernanke showed 0.75% and 2.25%. It’s the 2015 increase from .75% to 1% that spooked investors.
When asked at the press conference following the FOMC meeting about the shift in the dots representing the fed funds rate forecasts, Barrons reports Yellen as saying “the limited upward drift” [that’s increase in rate estimates by the members] did not actually represent a change in actual Fed assessments of their expectations for the funds rate. Still, the market was unconvinced.
During the press conference, Ms. Yellen either intentionally or by mistake defined what she meant by “considerable” (when referencing how long rates would remain low) which shortened the market’s expectations from mid-2015 to ‘six months.’
According to an article in CNN Money by El-Erian of the bond giant Pimco, “taken as a whole, Wednesday’s Fed communication confirms that the institution is steadfastly dedicated to maintaining its exceptional support for the real economy and Main Street. Moreover, due to its narrow set of policy tools — Congress has better ones but is paralyzed by polarization and dysfunction — the Fed has no choice but to bolster equities (and Wall Street) as a way of pursuing its growth and employment objectives.”
El-Eraian goes on to say “Yellen emphasized this strongly in her press conference. Whether in stating that unemployment remains too high or that interest rates would be kept abnormally low for quite a while, her message was clear: The economy still requires extraordinary Fed support to overcome the horrid legacy of the global financial crisis. She and her Fed colleagues are committed to provide it.”
If there is any tendency worth noting in all of this, it is that markets tend to overreact to Fed statements. They have clearly said all along that their policy will be driven by the economy and they have clearly proven (for better or worse) that they are willing to go to extreme measures to protect and energize it.