I got this one right last month after returning fresh from US – June hike is off. And in fact we sort of pared down our expectations of 2 rounds of rate hike this year to 1 to 2 rounds in my blog article on 28 May “Rate Hike 2016 And Our Prediction”. What prompted this is a sense that of weaker corporate earnings reported by corporate America, more layoffs in Wall Street, and groundswell unhappiness about the state of the US economy which is lending weight to presumptive Republican presidential candidate Mr.Trump’s campaign and the general distrust in Democratic administration which will be perpetuated by Secretary Clinton if she wins. The world braces for more uncertainty should there be a “surprised” outcome in November.
We were right to predict what is more of immediate concern for the Fed is Brexit on 23 Jun, next week. So much so that they would rather err on the side of caution and do a wait-and-see on its impact to financial markets globally before calibrating the next move. In Yellen’s own words “international uncertainty looms large” in Fed’s decision process.
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What surprised most analysts this time in her press conference following June’s FOMC is this – the about turn in anticipating markedly slower hikes in the coming years due to “persistent headwinds to economic growth in the US”. This, after setting everyone up just one month ago, to expect the very likely possibility of a 2nd rate hike in summer! Has the Fed been forced to eat its words? Or have they lost that “midas touch” in the reading of economic data and the state of the US economy?
Apparently it seems so to me. In fact I have always caution in this blog do not read too much into the “noise” that resonates from month to month where you have different analysts giving quite varied forecasts on where SIBOR will land by end of the year. I can tell you even the US Fed is unable to forecast accurately beyond 6 months it seems and I believe no one can predict what will be the outcome of Brexit. The only thing we can do is to wait and see how events unfold. The statement given by Fed is really a “non-event”. Everything depends on the outcome of Brexit and what they always like to quote – data, that is coming out over the next few months. In fact in her press conference Yellen said a July rate hike given the most recent decline in job numbers in May will be a long shot, but “is not impossible”, and it all depends on guess what – data! We think the more likely rate hike will be in September when the dust settles on Brexit.
What is more meaningful is to look at Fed’s own forecast of its benchmark federal funds rate where they have have adjusted it down to hit 2.4% by end 2018 from its previous forecast of 3% in March’s FOMC (incidentally the majority of Fed officials are still predicting two rate hikes by this year going by their medium forecast of 0.9% by end 2016). It also expects US economy is grow at a slower pace now of 2% GDP in 2016, down from its previous forecast of 2.2%. Unemployment rate now at 4.7% will be maintained for the rest of the year. What is most interesting to us here at MortgageWise, which we have said many times before is the no.1 factor we look at, is Fed’s forecast on inflation. It now expects inflation to move towards its 2% target at a slightly quicker pace than its earlier estimate, rising to 1.4% by end 2016, and to 1.9% by end of next year. Core inflation, which strips out food and energy prices, will also accelerates slightly to 1.7% by end 2016!
What do we make of all these? Here are some of our quick thoughts:
1. Wait For Outcome Of Brexit
Even the Fed is waiting for that. There is no need to anticipate when will be the next hike really. We believe that is likely September but as no one can predict the outcome of Brexit and that is generally accepted to have significant impact to US and global trade, which means all economic “data” will change by end of Q3 rendering any predictions now futile. Our prediction could also be wrong.
2. Inflation Will Take Centrestage In Fed’s Decision Going Forward
Understand that US Fed plays 2 roles – govern the economy on its twin-mandate of managing unemployment rate and inflation, and manage and set market expectations correctly through all its policy manovering. For the latter role, it has backtracked on its words twice this year, but to put it in perspective that is never an easy task for anyone. On its primary role of managing the economy, I think its attention will shift more to look at inflation rather than unemployment going forward. To this end, barring significant disruptions to global economy from EU or China for the rest of the year, I tend to believe inflation will continue on its slow climb especially when oil prices seem to stabilize at USD50 per barrel much earlier than I expected. It is on this basis that I expect there should be at least one round of rate hike in September or latest by December this year.
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3. Some Might Take The View Of A Protracted Period Of Low Interest Rate Environment
That is generally correct but the question is at what level?
There are generally two schools of thoughts at the moment:
- SIBOR will rise up slightly when US hikes again this year leading to strengthening of the dollar
- SIBOR will continue to stay low at current levels due to Brexit, US GOP elections and there will be no rate hikes
On the ground I would say yes we detected there is a shift to the 2nd view of late especially with looming of Brexit and the disruptions it might cause to financial markets. No one knows. There might be some who would take the risk and go for a lower floating rate mortgage for example on 1-month SIBOR. This rate can be as low as 1.4% today! Or take a 2-year fixed rate (lower than 3-year) at 1.65%. Speak to our consultants to find out more.
No one can predict with 100% accuracy the movements of interest rates not even US Fed itself. If one is willing to assume some risks and takes the view that we are entering a period of super-slow growth globally due to problems in the Chinese, Euro and even the US economy, I would say that is a 50:50 bet. Just make sure the “tradeoff”, ie. the difference in margin between fixed and floating, is big enough. Probably makes more sense for bigger loans too.
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