Fed puts rate hikes on the map

The minutes of the Federal Open Market Committee (FOMC) of April 26-27, 2016 revealed that the Fed was not satisfied by financial markets putting virtually zero probability on a rate hike before September, 21^st.

The minutes showed that “most participants judged that if incoming data were consistent with economic growth picking up in the second quarter, labor market conditions continuing to strengthen, and inflation making progress toward the Committee’s 2 percent objective, then it likely would be appropriate for the Committee to increase the target range for the federal funds rate in June”.

The least we can say one week after the publication of the minutes is that they did not represent a headwind by now for risk assets. Developed market equity indices, pulled by significant gains in the Banking sector, are higher while credit spreads tightened and the price of oil (Brent) crossed the USD50/bbl level for the first time since November last year. The slight rise in bond yields and in the US dollar has left Emerging markets lagging while Gold (-3.5%) is the main underperformer.

Since the Federal Reserve first increased its funds rate last December, Candriam’s asset allocation scenario has taken into account two hikes in 2016. At the end of this year, we think that Fed policy will be less accommodative, but not restrictive, limiting therefore the US dollar’s strength.

Incoming data so far has been consistent with “growth picking up” and “inflation making progress”. Over the coming weeks we look for catalysts leading to a potential rate hike. While regional surveys indicate that the ISM manufacturing survey could disappoint somewhat, the job report and the retail sales publication for the month of May are expected to show a solid outcome. In any case it will be worth listening to the Fed Chair Janet Yellen in Philadelphia on June 6th, just hours before the blackout period for FOMC members starts: her appearance could be the final nail in the coffin for a hike in June.