Fed raises rates less than expected as worries about financial system stability loom
Consistent with expectations, the US Federal Reserve (Fed) decided to raise the target range for the federal funds rate by 25 bps. This brings the range for the federal funds rate to 4.75% - 5.0%.
The recent rate hike trend is an attempt to control the rate of inflation. However, in addition to inflation, yesterday’s rate announcement also considered recent developments and their impacts on stability in the financial system. The rate hike was a unanimous vote by the Federal Open Market Committee (FOMC) members and reflected views that financial system concerns are a new drag on both growth and lending activity.
In their statement, the Fed confirmed the US banking system is sound and resilient, but acknowledged tighter credit conditions for individuals and businesses. The extent of these conditions is uncertain, while the FOMC continues to be aware of inflation risks. CIBC Capital Markets anticipates we’ll see one more 25 bps hike this year before we could start to see cuts beginning in 2024.
Heading into yesterday’s announcement, the Fed was stuck between a rock and a hard place. While recent economic data was trending in the right direction, inflation remained well above the 2% target — this gave the Fed cover for yesterday’s rate increase. At the same time, the Fed is seeing clear negative signs of the lagged effects of higher rates in the economy. Market volatility will likely persist as participants look for further cracks in the financial system.
David Wong, Managing Director and Head, Total Investment Solutions at CIBC Asset Management says in response to the Fed’s rate hike, the stock market showed short-lived strength immediately following the announcement, while bond yields trended meaningfully lower. While the Fed continued to reinforce vigilance around inflation, they softened their prior comments regarding ongoing increases in the target range and additional policy tightening.
Leslie Alba, Director, Portfolio Solutions, Total Investment Solutions at CIBC Asset Management believes recent uncertainty in markets has provided further evidence to support portfolio diversification, “we continue to believe investors will benefit from holding a broad mix of stocks and bonds in 2023. While stocks have been surprisingly resilient despite the recent financial system challenges, the bond market has clearly demonstrated the counter-cyclicality that was missing last year. This could lead to further benefits for bond investors if market volatility continues.”
At CIBC Private Wealth, we take a comprehensive approach to managing, building and protecting your wealth. If you'd like to discuss this market and economic update in more detail or have questions about your investments, please get in touch with me any time.