The Federal Reserve Open Market Committee (FOMC) raised the Target Federal Funds Rate (Fed Funds) to the range of 2.00% to 2.25% at the most recent meeting on September 26. The remaining meeting dates for 2018 are November 7-8 and December 18-19. The central change coming out of the most recent meeting was the removal of the word “accommodative,” leaving many Fed watchers waiting for when the markets would wake up to that significant change. The alarm bells rang loudly on October 10 and 11 with major market indices down more than 6% during just those two days. Clearly, global markets are on alert about the future path of interest rates.
Post their September 26 meeting, the FOMC posted the “participants’ assessments of appropriate monetary policy” or Dot Plot. This is published after each FOMC meeting and highlights each FOMC member’s expectation of where the Fed Funds should most appropriately be at various points in time. Significantly, a clear majority of FOMC members now believe that Fed Funds rates should end 2018 at the target range of 2.25% to 2.50%, which is another quarter point above the recently set target range. Furthermore, the expectation is for the Fed Funds rate to continue to climb throughout 2019 and 2020, into the range of 2.75% to 3.75%. Note that as of today, the 10-year Treasury is at a yield of 3.16%. The “longer run” view is for Fed Funds to be at about 3.00%.
Fed Funds Futures are traded at the Chicago Mercantile Exchange (CME). The futures prices give an implied probability of the Fed Funds Rate being at various target ranges. As of the writing of this blog post, the markets are not expecting an increase in rates at the November meeting. However, the markets are pricing in about a 78% probability of the FOMC raising rates at the December meeting. The next expected rate hike is in March 2019, with the implied probability hitting 47%. This pattern continues throughout 2019 with October futures implying a 34% probability of Fed Funds hitting 2.75% to 3.00% at the October FOMC meeting.
In addition to raising the Fed Funds target range, the Federal Reserve began unwinding their balance sheet in October. They began with letting $6 billion of Treasuries run off and another $4 billion of mortgage backed securities. The expectation set by the Federal Reserve is for the unwinding to continue and increase periodically.
As the FOMC stated after the September 26 meeting, this recent period of “accommodative” efforts by the Federal Reserve has come to an end. Rates are clearly on a path towards higher levels.
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