With Fed's Likely Rate Hike Widely Anticipated, Attention Turns To Yellen's Words

Drama is seriously lacking as today’s Fed decision looms, with futures prices pointing toward 100 percent chances of a rate hike. The market might putter around this morning ahead of the Fed move, but things could get more interesting at Fed Chair Janet Yellen’s press conference afterward.

Today’s Fed action at 2 p.m. ET is arguably less important for the anticipated rate move than for what Yellen might say at 2:30. Though Yellen’s term expires in February, she’s still in the captain’s chair, so her words carry weight. Listen for any signals Yellen might send about the Fed’s future direction on rates, and for anything she might say about the tax cut plan in front of Congress and its potential impact on the economy. It’s likely she’ll be asked, but it’s unclear if she’ll make any clear statements on fiscal matters, especially since the tax bill isn’t finalized.

The big question on rates is how many there might be next year. Today’s expected increase would take the Fed’s benchmark rate to 1.25 percent to 1.5 percent. Keep an eye on the Fed’s so-called “dot plot” to see where Fed officials think rates might be by the end of 2018 and into 2019 to get a sense of how hawkish policy might end up being. The other big thing people might be watching is what Yellen says about inflation, including where it might come from and what it might be next year.

Before the press conference (likely Yellen’s final one as Fed Chair), it’s important to take a close look at the Fed’s statement for any insights into the economy. Last time out, if you remember, the Fed noted that the labor market continued to strengthen and economic activity rose at a “solid rate,” household spending expanded at a “moderate” rate, and that there was growth in business fixed investment. The key today is to see if the Fed’s new statement changes any of these adjectives, and also if there’s any new language about inflation expectations.

Stay tuned on this site for another column later this afternoon discussing the Fed decision, Yellen’s press conference, and potential market impacts.

This morning brought November’s consumer price index (CPI), which rose 0.4 percent, as Wall Street analysts had expected. That was up from 0.1 percent in October. The number may seem a bit on the high side compared with recent reports, but core CPI, which strips out food and energy prices, climbed just 0.1 percent. That was slightly below analysts’ projections of 0.2 percent. By that measure, inflation seems to remain tame.

More data are due later today as investors get a look at the weekly U.S. oil supply numbers. Tomorrow morning brings November retail sales, which Wall Street analysts see growing 0.3 percent, up from 0.2 percent in October. October’s report saw solid growth in motor vehicle sales and discretionary spending areas like furniture, electronics and clothing, so perhaps we’ll see if those trends translated from October into November. Last month was the start of the holiday shopping season, with retailers reporting excellent Black Friday and cyber Monday sales totals.

While we’re on the subject of holiday shopping, the huge influx of online purchases apparently is causing problems for carriers such as United Parcel Service, Inc. UPS and FedEx Corporation FDX, the Washington Post reported. UPS warned last week that some deliveries would be delayed one or two days as staffers worked extended hours to manage the rush. UPS expects its holiday load to rise 5 percent, to 750 million packages, this holiday season, while FedEx says it’s planning for up to 400 million parcels. Amazon.com Inc’s AMZN deliveries are also experiencing delays. Americans spent a record $6.59 billion online on Cyber Monday.

Tax policy remains a key topic this week as Congress debates. A lot of the expectations have been built in, but the question is, can the reality — including the corporate rate — actually live up to the expectations we've heard for the last six months or so? That remains to be seen. Some of the talk Tuesday was veering toward a 21 percent rate, rather than 20 percent as proposed in the House bill, according to media reports.

Last night’s Democratic Senate race win in Alabama isn’t likely to make a difference in the tax bill vote, as long as Republicans stay on their proposed timeline of getting the legislation wrapped up by Christmas or thereabouts. The new senator isn’t expected to take office until early next year, keeping the Republicans’ current 52-48 Senate majority for now. The vote probably has more implications for next year, when Republicans will have a narrower 51-49 majority, so that could make it harder to get things done and perhaps bring more gridlock.

Tuesday’s mild climb in the S&P 500 Index SPX was spread across seven sectors, but even sectors that lost ground didn’t fall too far with the exception of utilities. Financials and telecom continue to hog the leader board, while info tech struggled a bit and is barely higher over the last month. The financial sector, on the other hand, is up nearly 7 percent in the last month as many market professionals hope banks can benefit from the proposed tax reform and expected rise in rates.

On the Treasury side of the equation, 10-year yields bounced back to 2.4 percent Tuesday and continued to climb early Wednesday, while the two-year yield slipped. This widening of the yield curve might have played a role in the financial sector’s strength, Briefing.com noted. However, keep in mind that the 59-point spread between the two notes as of late Tuesday remains near decade lows, and continues to be weighed on by weak yields overseas. Don’t forget that the European Central Bank (ECB) also meets this week, with a press conference scheduled Thursday morning. This could be important for the bond market, because it might give investors a better sense of the ECB’s future bond-buying strategy.

Gold is another market to watch, as prices tumbled to five-month lows Tuesday ahead of the Fed meeting, and is now trading below $1,250 an ounce. The dollar, meanwhile, rose a little as investors anticipated a U.S. rate hike (see chart below).

Crude oil turned the other direction Tuesday after an early advance, falling back toward $57 a barrel and losing around 1 percent of its value. The rally kicked off Tuesday morning on news of a pipeline issue in the North Sea, but some analysts said the reaction appeared overblown and prices quickly retreated. Some analysts expect U.S. supplies to fall again in today’s weekly report, but production has generally stayed near record highs, seemingly putting a cap on rallies. That said, oil bounced back a little early Wednesday.

FIGURE 1: DOLLAR COMES OUT SWINGING AHEAD OF RATE HIKE. The U.S. dollar (candlestick chart) is up sharply over the last week as optimism grows about the U.S. economy ahead of what’s expected to be a U.S. rate hike today. Gold (purple line) has headed the other direction, at least in part for the same reason. A strong U.S. dollar often tends to hurt the gold market. Data source: CME Group. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.
Risk Embrace: We’ve talked a lot this year about how “resilient” the stock market has been, but we haven’t really dug into the reason. Some market professionals think stocks’ ability to avoid any extended downturns so far in 2017 could stem from a demand-driven global acceptance of higher risk. International markets have outperformed, capital is flowing everywhere (stocks, bonds, real estate, even bitcoin), and that could signify broader acceptance of higher valuations, higher multiples on earnings, and higher leverage, notes Devin Ekberg, managing director of education at the Investments and Wealth Institute. Ekberg says if this risk-embracing psychology continues, it could indicate a chance of 2018 looking similar to 2017.

Phoning it In: Telecom would have been one of the worst places to park your money at the start of 2017, judging by year-to-date performance in which the sector has fallen more than 9 percent vs. a 19 percent rise for the S&P 500 Index (SPX). But telecom has really turned on the afterburners over the last month, rising more than 11 percent and leaving the SPX (up 3 percent since a month ago) in the dust. The sector jumped another 2.8 percent on Tuesday. Leaders include Verizon (VZ) and AT&T (T), both of which got beaten down over the summer.

Some of the recent strength in telecom comes ahead of a scheduled vote Thursday by the Federal Communication Commission (FCC) to repeal so-called “net neutrality” laws. Such a reversal is seen by some analysts as helpful to telecom stocks because it could allow the companies to charge more for certain services, the Financial Times explained. Nevertheless, research firm CFRA puts telecom among its “under-weight” sectors for 2018, saying the market remains highly competitive and “cord cutting” could continue to hurt these stocks. One thing in the sector’s favor, however, could be its price-to-earnings ratio of around 16, which is below approximately 19 for the SPX.

Inflation Conundrum: Producer prices, as measured by the government’s monthly Producer Price Index (PPI) advanced 0.4 percent in November for the second month in a row, but the Personal Consumption Expenditures (PCE) price index remains mired at just above the flat-line where it’s been for months. It’s important to take the PPI number in context, because a lot of the November increase was fueled by higher gas prices., and core PPI, which strips out food and energy, rose just 0.3 percent in November and was up a mild 2.4 percent year-over-year, unchanged from October. However, Briefing.com noted that producer prices are rising and could create some profit margin pressures if the higher prices aren’t passed through to consumers. That could be something investors might want to keep in mind for possible earnings implications going forward.

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