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The Federal Reserve and markets have long had a tempestuous relationship, codependent, often replete with disagreement, miscommunication and the occasional tantrum. Could they be heading for another one on Wednesday?

Last week was marked by a whipsawing in expectations on whether officials will lift the bank’s key short-term rate. A sudden anxiety that they might was tempered after Lael Brainard, a Fed governor, used the last speech before policymakers entered their official pre-meeting purdah to urge caution.

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Thanks to recent market turmoil and lacklustre US retail and services data, interest rate futures only gauge the odds of tighter policy at below 20 per cent. While just six of 46 economists surveyed by the FT expect a rise this week, some believe the willingness to move may be underestimated by markets and a few notable investors smell complacency.

Jeffrey Gundlach, the founder of DoubleLine Capital, warns that Fed officials “want to show that they are not guided by the markets” and the only way to do so is to tighten policy when it is not fully expected.

That sentiment was echoed by Bill Gross, at Janus Capital, who says the Fed may defy expectations and move.

By contrast, Ray Dalio, the founder of the $154bn hedge fund Bridgewater, does not think the Fed is paying enough attention to markets.

“In my humble opinion, I think the Fed is putting too much emphasis on the business cycle and not enough on the debt cycle. And I don’t think they are paying enough attention to how markets react.”

Mr Gundlach doubts the Fed would attempt to tighten monetary policy as long as the market-implied odds on a move are below 40 per cent, but by attempting to prove its independence from investor expectations it would risk “blowing itself up”.

Should the Fed defy current market consensus, however, it risks arousing turmoil at a time when investors are already nervous that the European Central Bank and the Bank of Japan are having doubts about whether to enlarge their own bond-buying programmes.

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For those at the Fed wary of tightening, there are other reasons for caution. Some investors point to the continuing rise in the London Interbank Offered Rate, an important gauge of bank borrowing costs. Libor also sets a floor for trillions of dollars worth of loans and mortgages and has climbed steadily since before the summer because of reforms unfolding in the US money market fund industry.

Chart: Fed fund rates

While the rise is technical and undramatic in nature, it still reflects a de facto tightening of financial conditions, and a Fed rate increase would exacerbate that at a sensitive time, one hedge fund manager argues.

“People should be worried,” he says. “Why throw gasoline on the fire ahead of this important date [Oct 14, when the MMF reforms come into effect]? Thinking of raising rates when there are these tensions in the bank funding market is mad.”

Then there is the presidential election. While that has in practice meant almost all economists and fund managers discount a move at the November meeting, which happens just days before Americans go to the polls, many feel it offers officials another reason not to act this week.

“There’s not a lot of risks to just sitting on your hands and not doing much for a few months,” says Jim Sarni, managing principal at Payden & Rygel Investment Management. “They don’t need to do anything.”

Chart: Libor rates

Of course, there has always been a strand of opinion among investors that tighter monetary policy is long overdue even if it triggers a market tantrum. An uptick in core US inflation to 2.3 per cent in August is ammunition to those who believe that the Fed is behind the curve.

“It’s time to let the markets — and companies dependent on low rates — writhe a bit, kick the habit, lose the crutch, learn to walk without the assistance that is now crippling normal function,” says Adrian Helfert, head of global fixed income at Amundi Smith Breeden. “Don’t be persuaded by those screams: they’re only the sound of a return to feeling without anaesthesia.”

Others fret that the Fed staying on the sidelines might itself be a cause for concern. The stop-start, slow-motion interest rate normalisation cycle, coupled with ever-gloomier forecasts and a ratcheting down for the peak in interest rates, is a sign that officials are growing increasingly concerned the economy may indeed be trapped in “secular stagnation”, a theory posited by Larry Summers, former Treasury secretary.

“In my book, the fact that it apparently cannot hike more than once a year is a reason to worry,” according to Elga Bartsch at Morgan Stanley. “Why? First and foremost because it likely speaks to how the natural rate of interest has fallen and how little it has increased over the course of what has already been a long, albeit shallow, economic recovery in the US.”

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