Wednesday, December 16, 2015

Fed Raises Rates, Civilization Ends

Today, the Federal Reserve raised short term interest rates a quarter point.  Stock up on food, water, blankets, toilet paper and ammo.  Barricade your doors and windows.  Civilization is ending.  Massive hordes wielding pitchforks will rage through the streets.  Entropy will increase.  Chaos will reign.



in all likelihood, not much will happen in the near future.  A quarter point really isn't a lot.  If the typically usurious credit card interest rate were increased a quarter point, you'd barely notice it, unless you're so deep in debt that bankruptcy is a more realistic option than minimum monthly payments.  If a quarter point increase on your mortgage rate knocks you out as a buyer of your dream home, you were probably about to pay too much for that house.  Money market funds and bank money market accounts have been paying almost nothing in interest.  If they now start paying a quarter point, you won't see a stampede from stocks to money markets.  The only thing that will happen is that savers will start thinking they can add one four-dollar cup of coffee per year to their budgets.

Will the rate increase exacerbate the fallout in the junk bond market?  Maybe by a bit.  Mathematically speaking, higher interest rates imply lower bond prices.  But, again, a quarter point won't greatly change bond prices.  The junk bond losses are, to a large degree, a result of the oversupply in the energy markets (oil and natural gas).  That's not the result of Fed policy.  It's because the energy markets were overstimulated by rapid growth in some parts of the world (especially China) which has now abated. 

The key question is how fast the Fed will raise rates over the one, two and three years.  Rapid increases will, indeed, significantly change the relative values of assets.  But Fed Chair Janet Yellen is signaling that the Fed will be kinder and gentler with rate increases than it has been in the past. 

Could the Fed be making a mistake?  As one former vice presidential candidate would have put it, you betcha.  The Fed has made many mistakes in the past and some of them were egregious.  Stay alert for trouble--the junk bond market, the manufacturing slowdown, China's slowdown, falling commodities prices and who knows what else could signal the next economic dislocation.  But the market was expecting a quarter point increase today, and if the Fed hadn't raised rates, it would have probably created more market turmoil than raising rates causes. 

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