The facade of the U.S. Federal Reserve building is reflected on wet marble during the early morning hours in Washington, July 31, 2013. The market’s infatuation with TINA will come to a sudden halt if the U.S. Federal Reserve begins to hike interest rates later this year, as many expect.Reuters
Globe editors have posted this research report with permission of BlackRock Investment Institute. This should not be construed as an endorsement of the report's recommendations. For more on The Globe's disclaimers please read here. The following is excerpted from the report:
The US labour market is strengthening , inflation appears to have troughed and financial markets are looking frothy. What happens when the Federal Reserve (Fed) finally yields to this reality and raises short-term interest rates? Our portfolio managers in April debated the powerful, often conflicting forces shaping the Fed's decision and the U.S. yield curve. Here are our main conclusions:
- We expect the Fed to raise short-term interest rates in 2015 – but probably not before September. Technological advances are set to keep dampening wage growth and inflation, reducing the need for the Fed to raise short-term rates as quickly and as high as in past tightening cycles.
- The longer the Fed waits, the greater the risk of asset price bubbles – and subsequent crashes. Years of easy money have inflated asset valuations and encouraged look-alike yield-seeking trades. We would prefer to see the Fed depart from its zero interest rate policy (ZIRP) sooner rather than later.
- A glut of excess bank reserves and the rise of non-bank financing mean the Fed’s traditional tools for targeting short-term rates have lost their potency. Overnight reverse repurchase agreements are part of the new playbook. We expect the Fed’s plan for ending zero rates to work, but do not rule out hiccups.
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