The Fed does a U-turn

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03/21/2019 | 05:20 pm
On Wednesday, the US Central Bank abruptly changed course. It gave up on raising interest rates this year, as it expects a more pronounced slowdown in growth in the United States and lower inflation.



The Monetary Committee said that at the beginning of the year, the labor market remains strong but economic activity growth has slowed compared to the strong pace of the fourth quarter. It is now expecting an expansion of 2.1% for 2019 compared to the 2.3% estimated in December. Inflation is expected to reach 1.8% compared to a projection of 1.9% previously.

In the first quarter, household spending increased at a slower pace than expected, and there was also lower investment. The Fed points out that overall inflation has slowed over the past 12 months, mainly due to lower energy prices, particularly petrol.

A patient stance

The Fed, which raised rates four times previously, and forecast two more interest rate hikes, now adopts a very cautious position. Its President Jerome Powell advocates for a patient stance. He said that it may take time before the employment and inflation prospects clearly invite a change in policy.

He announced that there would be no rise in 2019 and only one increase would be needed next year, and added that the reduction of its balance sheet would decrease to 15 billion dollars per month from May (compared to 30 billion currently), and would be definitively interrupted from September.
 
Source:Charles Schwab, Federal Reserve, as of 03/20/2019.


The dollar fell against the European currency on Wednesday after the Fed announced its sharp shift from its previous expectations.

 
Source: Bloomberg

This new stance from the Fed comes not only after high stock market volatility, but also following Donald Trump's violent criticism of the Central Bank President. However, Jerome Powell denies that the Fed has been influenced by criticism from the White House.

In a report, analysts at Charles Schwab give some interesting key takeaways for bond investors. It suggests that short-term interest rates may have peaked and that investors in floating-rate debt would be wise to move some funds into fixed rate investments. It also points out that ten-year Treasury yields have most likely peaked for the cycle, and that investors may want to consider gradually adding intermediate-to-long-term bonds to their portfolios to lock in those yields. Finally, it notes that long -term yields have “fallen steeply and riskier segments of the market like emerging market and high yield bonds have posted strong gains.” As a result, it is tempering its expectations for return for the remainder of the year: “We expect investors to earn the coupon income, but price gains going forward may be limited.”
Romain Fournier
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