Wealthy Nations Daily Update - Fed eve

Markets have reached somewhat of a lull phase as we near the end of the year and wait for tonight’s Fed announcement (7pm GMT). Quiet enough, in fact, that one popular financial news pundit found the time to string a few amusing couplets together in homage to tonight’s statement.

“Twas the night before rate rise, and all through the bourse,

Not a bond yield was stirring, except junk, of course;

The economists were predicting doom, saying beware,

In the hope that Janet would help the bull, not the bear;

The investors all vested in markets seen dead;

While visions of '08 danced in their heads.” (It’s Fed eve - Lorcan Roche Kelly)

Around the last time the Fed began raising rates in mid-2004 Google had only just introduced Gmail, Friends (a prevalent US sitcom) had just broadcasted its final ever episode and the EU had only just grown from 15 to 25 members. It’s difficult to remember a time before any of these. Likewise it’s easy to forget the feel and uncertainty of the market from over a decade ago; not just relying on the data points alone to gauge what is most likely to proceed from tonight’s announcement. Presumably, those touting an indiscriminate credit sell-off (in even such a modest rising rate environment) are over-optimistic that reality will blindly follow simplified economic models. Moreover they forget examples of the past and ignore a potentially relevant aphorism to, “buy the rumor, sell the fact”.

What recent history indeed tells us is that between 2004 and 2006 when the Fed last raised rates, from 1% to 5.25%, longer term interest rates scantily moved. Moreover in the first six months of rising rates the dollar index (DXY) fell by 9%. Greenspan described this as a “conundrum”. But although the scenario had some differing factors and the global economic environment contrasts present sluggishness, such a translation effect (or lack of) on the broader curve is not an abnormality. In other tightening cycles such as from Jan 1994 to Jan 1995, and from June 1999 to June 2000 - as in June 2004 to July 2006 – the US Treasury curve flattened with the longer end remaining relatively strong.

It seems sensible to be prepared for a lift-off today but with the expectation of a slow and evaluating Fed through 2016. Such a symbolic move in the short term rates may already be priced into markets and the technical outworking of a rise could be slighter that what we have already seen. We shall just have to see what tonight brings as well as future announcements from the Fed. In the meantime we believe we are well positioned in terms of credit quality and duration with a portfolio that provides additional spread cushion through the value approach and preference for creditor nation.