The Federal Reserve (Fed) ended its two-day Federal Open Market Committee (FOMC) meeting yesterday and, as expected, there were no changes to current interest rate or bond purchasing policies. However, signaling on future path of short-term interest rates seemingly surprised markets. Notably, the number of Fed members that now expect interest rate hikes in 2023 changed dramatically. While an initial hike was once thought of as a 2024 event at the earliest, the majority of members now expect at least two quarter-point interest rate hikes to take place in 2023. Additionally, seven members (out of eighteen) expect at least one rate hike in 2022. While, it should be noted that these “dot-plot” projections are not voted on nor do they represent official policy, it does show the changing opinions of the committee members (more on this in next week’s Weekly Market Commentary). Nonetheless, the overall hawkish message surprised the bond market and as seen in the LPL Research Chart of the Day, Treasury yields across the curve moved sharply higher after the FOMC statement was released (yields move higher when bond prices fall).
“What was expected to be a routine Fed meeting turned out to be moderately interesting,” noted LPL Financial Fixed Income Strategist Lawrence Gillum. “While it was largely expected that the dot-plot would show that the first interest rate hike would likely occur in 2023, the number of members that pulled forward that expectation is more than the market was expecting and could show a more hawkish tilt to monetary policy going forward.”
Other takeaways from the meeting and the subsequent press conference included:
- Summary of Economic Projections (SEP): Four times a year, the Fed updates its economic projections for the next several years as well its longer-term forecasts. The Fed now sees 7.0% GDP Growth in 2021 (up from 6.5% in March), and much higher inflation expectations with PCE headline and core metrics, their preferred inflation metrics, at 3.4% and 3.0%, respectively. However, the committee sees inflation falling to slightly more than 2.0% in 2022 and 2023. The expected unemployment rate in 2021, 2022 and 2023 remained largely unchanged.
- Tapering of bond purchases: The Fed continues to buy at least $80 billion of Treasury securities and $40 billion of agency mortgage securities each month. Chairman Powell, in his post-meeting press conference, indicated that they have started “talking about talking about” the potential to reduce those bond purchases but aren’t ready to curtail purchases just yet. Chair Powell mentioned that the committee will continue to talk about reducing its bond purchases and will announce its intention well in advance of actually reducing the amount of Treasury and mortgage securities.
While the bond market was surprised by the change in the number of members that now expect interest rates to move higher, it should be noted that the change is due to the continued economic recovery. In our view, it should be viewed as a positive that the Fed thinks the economy is recovering quicker than originally expected. The next FOMC meeting concludes on July 28 and while we won’t get updated economic projections, we should learn more about the future path of monetary policy.
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