US Interest Rates are set by the FOMC (Federal Open Markets Committee) which meets approximately every 6 weeks. The ‘Fed’ has an unwavering commitment to ‘normalising’ interest rates. The average key ‘Fed Funds’ rate (the rate at which banks lend to each other via deposits placed at the Federal Reserve) is 5.95% looking at the last forty years. The market believes the new Fed ‘normal’ target is between 3 – 4% looking at an 18 month horizion; the level of inflation will be the key driver of this (currently US inflation is a healthy 2%).
Last week the US Federal Reserve delivered a further 25 basis point (0.25%) rate rise taking the Fed Funds rate to a range of 2.00-2.25%. This was widely anticipated by the market which therefore reacted little.
The main US stock markets (S&P 500, Dow Jones Industrial Average and the NASDAQ) are all close to record highs despite the interest rate rise and continued trade concerns with China and indeed the risk to global trade.US Markets continue to outperform European and UK equity markets .
Some of the US outperformance can be attributed to strong corporate earnings. Earnings per share for the S&P 500 are expected to rise 20 per cent in 2018. This compared to 12 per cent growth for non-US stock markets. Much of the overall difference can be attributed to the benefits of US corporate tax cuts.
The yield on the key 10-year US Treasury Bond is trading at 3.05% after touching 3.11% when the Fed raised interest rates last week. Generally, global bond yields are on the rise albeit slowly as global growth returns and as post financial crisis emergency levels of interest rates slowly rise. Quantitative Easing (which forces down bond yields) also is becoming an historic event with the European Central Bank the only central bank still running a QE programme, and this is due to finish at year-end. 10-year US Treasury Bonds traded in a 2.50-3.00% range in 2017 and it looks like we are now breaking above this range.(Remember yields up means bond prices down!).
Emerging Markets have fallen 20% so far this year unsettled by a rising US Dollar which is continuing to benefit from the general upward trend of US rates. As the dollar rises, the cost of substantial amounts of Emerging Market debt denominated in US Dollars rises in local currency terms and becomes harder for those countries to service debt repayments. Turkey and Argentina have been particularly in the news although, in a ‘contagion’ effect, all Emerging Markets have suffered. Argentina and Turkey have both had to raise interest rates extremely sharply to support their currencies. Such moves are very unpopular with local populations and risks political instability.
Oil: Brent crude, the global benchmark, is trading at a 4-year high at $82 dollars per barrel as OPEC in conjunction with major producers such as Russia limit supply coming to the market (a year ago Brent was $55 per barrel).A booming US economy (demand up) and President Trump’s sanctions against Iran (supply down) reducing global production by circa 1 million barrels per day are two of the causes of the recent oil price rise.
Gold: The price of gold remains subdued at just below $1,200 per ounce (well below the $1,900 per ounce level shortly after the financial crisis). Attractive US equities do not help the performance of gold. It is only if inflation returns or overshoots will gold return to the investor limelight.
Note: M&A actively continues in 2018 at a record pace (the fastest since 2017) with $3.3 Trillion of deals done so far this year due to:
- Still relatively low levels of bond yields facilitating borrowing
- A strong US Dollar facilitating overseas takeovers by US companies
- Companies looking to restructure their business models acquiring smart companies in our rapidly changing world!
S&P 500: 2916
FTSE 100: 7500
Bonds – 10 Year Government Yields
EUR/USD 1.1580 (1 euro buys 1.1580 dollars)
GBP/USD 1.3000 (1 pound buys 1.3000 dollars)
OIL: Brent: 82.00 (dollars per barrel)
GOLD: 1195 (dollars per ounce)
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