It is rarely a good moment when the Fed makes the Today show. It’s usually too esoteric a subject first thing in the morning. Most people, including us, thought they would raise rates for the first time since June 2006 by around 25bp. They did not. Here’s why and, more important, what it means for your investments. 1. Employment: the employment numbers are respectable but certainly not great. Employee earnings are weak.
2. Inflation: low with some sectors, like energy, falling.
3. Global risk: for the first time in a long while, the Fed talked about risks in global economic conditions, for which we read China and Emerging Markets.
So now wait for an October or December raise. But we are sanguine about it because this is one of the most telegraphed, forewarned and well-communicated rate rises we can remember. This is what it means for your investments:
1. Bonds: when the Fed tightens (shown in the shaded areas below), the yield curve flattened every time. This means long-term bonds showed little price action. So, it does not follow that a Fed Funds increase results in bond losses. We think bonds will remain steady in the early cycles of a rate hike.
2. Equities: higher rates usually spell bad news for equities as it increases borrowing costs. But this time, i) higher rates would help bank profitability and ii) markets seem to have discounted much of the concerns. There may be some volatility but at a forward Price/Earnings rate of 15x, the market stands at reasonable valuations.
3. Emerging Markets: higher rates could spell trouble because many markets have high US dollar debt and struggle with depressed commodity prices. But by important valuations like Price/Book and Price/Earnings, markets are the cheapest they have been in 20 years.
Bottom Line: We have had one correction this year. Expect another. But the longer-term investments cycle is positive.
--Brouwer & Janachowski, LLC
Advisor cannot guarantee the accuracy or completeness of any statements or numerical data in this commentary. Past performance is no indication of future results.