The Fed is poised to raise interest rates and higher rates commonly hurt the Stock market. But the stock rally continues despite higher bond rates. When will interest rates start to hurt stocks? CNBC writes that it may not be bad for stocks that rates are going up for now.
Some strategists foresee stocks climbing even higher, despite the Federal Reserve’s expected rate hike on Wednesday.
As bond yields have surged in the weeks following the election – with the 10-year Treasury yield rising from just below 2 percent to above 2.5 percent since Nov. 9 – U.S. equities, too, have rallied to all-time highs.
The yield on the 10-year hit 2.526 percent on Monday, its highest level since September 2014. As The Lindsey Group’s Peter Boockvar wrote in a note Monday several hours after this milestone was reached, “The upward lurch higher in the cost of capital continues.”Rates that have been kept low by the Fed’s actions have been a major tailwind for the market.
Today’s interest rates are very low by historic standards so there may be a way to go before interest rates hurt stocks. When will that be? And what other factors will be driving the market?
Setting Interest Rates
The Federal Reserve is tasked with avoiding or at least controlling inflation. Thus the Fed raises interest rates when the economy starts to overheat and prices go up. Their data driven approach to rates says that now is the time for another small rate hike. However, the Fed will only rates as the economy warrants. Forbes writes that bankers are in disagreement and want the Fed to raise rates now to avoid the asset bubble caused by persistent low rates.
[T]he Fed’s Board of Governors had held an unannounced, closed-door meeting with top US bankers, including the heads of Citigroup (C), Wells Fargo (WFC), BB&T Corp (BBT), and Northern Trust (NTRS).
Echoing the FOMC dissents later that month, the bank CEOs asked the board to normalize rates and stop “riding the asset bubble being generated by the easy-money policies around the globe.”
How high do rates have to go to put a dent in the world wide asset bubble and when will that happen?
Worry about Deflation First
According to Business Insider the former head of the UK Financial Services Authority is pushing for higher rates and is not concerned about inflation. Rather the problem is a deflationary trap set by low rates.
What he is concerned about, however, as he explained in an interview with Real Vision TV this week, is the level of public and private debt in the global economy, which is higher than ever and continually growing. Speaking to Real Vision, Lord Turner said with interest rates close to zero, or negative in some countries, it just creates more incentive for people to create more debt.
“So that is I think the fundamental problem facing the global economy and why, having just come back from the IMF meetings in DC, why the IMF has, for about the fifth year in a row, reduced its forecasts of global economic growth. We are in a deeply profound deflationary trap and we don’t have perfect answers to get out of it.”
Higher rates will normalize the cost of doing business. That will hurt stocks after a couple more rounds of rate hike. Meanwhile the stock market will assess how well Trump can deliver on his promises and that may have a stronger downward effect on the market than interest rates.
