The Federal Reserve (Fed) kicked off its final meeting of 2018 today. Financial markets, however, have already turned the calendar on interest-rate predictions.
Fed funds futures’ implied probability for a rate hike at this week’s meeting has hovered around 70–80% for most of this quarter. As shown in the LPL Chart of the Day, investors’ rate hike expectations for next year have dropped significantly since the Fed’s last meeting, reflecting their nervousness around the Fed’s exit from accommodative monetary conditions in a complex environment.
“Markets will continue to look closely for hints on how high the Fed may push rates next year,” said LPL Research Chief Investment Strategist John Lynch. “Although a complex economy often creates unknown challenges, we remain confident that the Fed’s current flexible approach may lower the likelihood of a policy mistake.”
Investors have had to digest several headwinds in the latter half of this year, many of which have rattled markets recently. Because of this, we expect Fed Chair Jerome Powell’s post-announcement press conference to garner more attention than the rate decision itself (barring a surprise). Policymakers’ comments on the “neutral rate,” the point where monetary policy is neither accommodative nor restrictive for the economy, have fueled stark rallies and sell-offs in U.S. stocks recently, and we expect the markets’ fascination around the neutral rate to continue.
Still, we have faith in the Fed’s pragmatic evaluation of risks, especially in the current environment. As mentioned in our 2019 Outlook: FUNDAMENTAL: How to Focus on What Really Matters in the Markets, we expect the terminal fed funds rate to peak at 3% this cycle, implying three more hikes from the current fed funds rate, as moderate growth and manageable inflationary pressures continue into next year. Solid economic growth and a tight labor market with manageable inflation have been a testament to the Fed’s ability to balance price stability and maximum sustainable employment. We encourage investors to focus on the Fed’s pragmatic, balanced approach, which gives us confidence in its ability to execute policy effectively as rates converge on neutral.
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