Was The Fed Telling The Markets Something Today?

The Federal Reserve’s interest rate setting body, the Open Market Committee, meets on December 19 to 1) decide on a 25 basis point boost in benchmark interest rate, and 2) to tell financial markets what to expect on interest rate increases for 2019.

It’s No. 2 that’s extremely important to the direction of stock and bond prices right now. The financial markets remain convinced that the Fed will raise interest rates on December 19. The thinking is that the U.S. central bank is just too committed to that action to change course now.

But the market is convinced that policy for 2019 is in play. Not so long ago the Fed was signaling three interest rate increases for 2019. Nobody on Wall Street now thinks that’s likely. But two moves? One and done? Nothing after December? Investors and traders want to know.

And that’s why speeches and presentations by Federal Reserve officials over the next week or so are extremely important. The Fed hates to surprise the financial markets–creating volatility is not a good thing in the Fed’s opinion–so it’s likely that the Fed will be seeking to mold opinion in the financial markets ahead of the December 19 meeting. And since the Fed goes silent in the week before a meeting, the bank has less than a week to get the word out.

Which is why two speeches today by Fed members are worth noting.

First, at an event in Washington Federal Reserve governor Lael Brainard said the economic picture was broadly positive but that risks were growing overseas and in the corporate debt markets at home. “The gradual path of increases in the federal funds rate has served us well by giving us time to assess the effects of policy as we have proceeded,” she said. “That approach remains appropriate in the near term, although the policy path increasingly will depend on how the outlook evolves.” If my Fed-speak de-coder program is working correctly, Brainard was laying the ground work for a pause after the December rate increase.

Second, speaking less than an hour later, St. Louis Federal Reserve bank president James Bullard repeated his call for the Fed to pause its current cycle of interest rate increases. “We are at a crossroads in monetary policy,” said Bullard, who next year will be a voting member on the Fed’s Open Market Committee. With inflation contained and at no risk of breaking out, investors are nervous the Fed has gone too far, he suggested. I don’t think you need any de-coding to figure out what Bullard is saying. Especially when he continued by saying that there’s a real risk that the Treasury yield curve could invert this month. That could set off another outbreak of market selling since an inverted yield curve is seen on Wall Street as a warning of a coming recession.