In light of the recent market movements, from the Dow Jones Industrial Average -5.21% last week, to the Vix increasing by 67.88%. The U.S January Consumer Price Index data will be released on Wednesday 14 February and on Thursday the Producer Price Index data will be made available. Both sets of data along with the January Jobs report will feed in to the new Federal Reserve Chair Jerome Powell’s decision around Interest Rates hikes. Were the recent market movers a result of the Jobs report data and the market pricing in the Federal Reserve’s Contractionary Monetary policy? In June 2017, Ex Federal Reserve Chair Janet Yellen stated that Quantitative Tightening (QT) in terms of the balance sheet normalization will be like “Watching Paint Dry”.

 

Monetary Policy

 

Monetary Policy is used to management of Money Supply and Interest Rates within an economy. It is used to control Inflation, Consumption, Growth and Liquidity. Quantitative Tightening is now being used by the Fed to unwind their $4.5 Trillion balance sheet, of which $3.5 Trillion was added since the 2008 crisis. The Federal Reserve will gradually “run off” their holdings, meaning they will not re invest the maturing funds in the Treasury market. This will result in a reduced demand for U.S Treasuries and in turn should lower prices. Bond prices and yields have an inverse relationship. See our recent blog on Sovereign Bonds And U.S Rising Yields.

 

Source: Bloomberg

 

Interest Rates

 

Interest Rates are also on the increase, with the latest hike in December 2017 from 1.25% – 1.5%, there are three rate increases expected in 2018. Interest Rates remained at 0.25% after the financial crisis to stimulate growth along with the use of Quantitative Easing. These mechanisms are now being put in reverse. The U.S Inflation rate is slightly above its 2% target at 2.1% in December 2017.

 

The US FED Funds Rate chart:

 

 

Source: Trading Economics

 

The U.S 10 Year Treasury Note

 

The U.S 10 Year Treasury Note rate is otherwise known as the “risk free rate” and is the benchmark for all other government debt in the world. Increasing yields increase the cost of capital. Changes in the 10 Year Treasury Note has an effect on the global markets. See our recent blog on How Bond Yields Affect Your Wallet.

 

Source: MarketWatch

 

As the U.S Dollar is the global reserve currency that accounted for 63.5% of Currency Composition Of Official Foreign Exchange Reserves in Q3 2017 as per the IMFs recent data. The U.S Dollar Index has also seen a drop of -10.31%  over 1 year.

 

Source: MarketWatch

 

Flattening U.S Yield Curve

 

Taking the U.S 2 year Treasury Note yield (2.069% 9Feb) from the U.S 10 year Treasury Note yield  (2.8% 9Feb), The Spread is currently 0.785%. Where the spread range is between 0% to 1% this represents a flattening yield curve. This is concerning for investors and is a general indication of where the market is heading. Where the yield curve falls below 0% this represents an inverted yield curve and recession.

 

How The Economy Works

 

Ray Dalio founder of Bridgewater Associates one of the world’s largest hedge funds created an interesting video on How The Economy Works . The economy is simply a collection of markets and understanding where we are in the economic cycle should prevent reactions to events that overall are insignificant. This video should help in understanding how minor market events are insignificant when looking at the economy as a whole. The link also discusses how policies are implemented in an attempt to stabilise the Economy, Inflation, Consumption, Growth and Liquidity.

 

The Federal Reserve Contractionary Monetary Policy in raising Interest Rates and the reduction in Money Supply perhaps is being reflected in the market. Expectations on tighter policy may be acting as a deterrent for investors to “Buy the Dip”. Watching the market price in policy changes have been far from “Watching Paint Dry”. A Diversified portfolio in line with your risk preference is important to protect your holdings over the long term.

 

Should you have any queries or wish to discuss the above in more detail, please do not hesitate to contact us on 061 518365.

 

Niamh Breedy QFA RPA
Financial Planner

 

 

 

 

Disclaimer

Metis Ireland Financial Planning Ltd t/a Metis Ireland is regulated by the Central Bank of Ireland.

All content provided in these blog posts is intended for information purposes only and should not be interpreted as financial advice. You should always engage the services of a fully qualified independent financial adviser before entering any financial contract. Metis Ireland Financial Planning Ltd t/a Metis Ireland will not be held responsible for any actions taken as a result of reading these blog posts.

Disclaimer


Metis Ireland Financial Planning Ltd t/a Metis Ireland is regulated by the Central Bank of Ireland.


All content provided in these blog posts is intended for information purposes only and should not be interpreted as financial advice. You should always engage the services of a fully qualified financial adviser before entering any financial contract. Metis Ireland Financial Planning Ltd t/a Metis Ireland will not be held responsible for any actions taken as a result of reading these blog posts.