The FED And The Interest Rate Trigger

As we draw closer to the December FED meeting the market expects that the Federal Reserve Bank Of New York will be considering a rate hike of at least 25 basis points. The economic data out of the US has been relatively positive. We have seen growth in consumer confidence, wages, GDP and a drastic fall in unemployment. The key indicator linked to interest rates is inflation which is at 1.8% and at time of writing we are expecting the next figure to be 1.9% by consensus. A rise in inflation would no doubt serve the FED's case for a rate hike. Let's not forget that the FED has a responsibility to its shareholders, so despite the naive view point that the FED's mandate is to protect the US economy, it is really still largely about profits. You guessed it! Higher rates mean more profits. Of course there is a juggling act here, the FED needs the US economy to be solid if it is going to continue earning that interest. However the notion that a debt ridden economy is bad for the FED and this will influence interest rate hikes is absurd.

Historically rates are at their lowest point. Arguably this allowed for central banks globally to refinance cheaply. It is inevitable as we move out of a recession that the appetite for profit will return. In the 70's and 80's, US interest rates were between 10 and 20 percent. In the UK it was roughly the same, as the need for cheap money dominated central banking policy rates declined steadily as the world plunged into debt. The last time rates were close to above 5% was pre-financial crisis, that is nearly 10 years ago. It is no wonder traders are confused about how important rates are to interest rate bearing currencies. To date, a trader who is 26 years old would have been 16 years old the last time rates were above 5%. This means such a trader could have only traded perceived value of a currency, rather than value in real terms. Let's face it, an industry were the average age is that of the Arsenal football team, are we really qualified to have an opinion on rate hikes?

We believe that the FED is running out of time to decide on a rate hike. If they don't act now, they may have to raise rates faster and more aggressively and that could have serious consequences to home owners and those holding other types non-collateralized debt. The Dollar Index is near an all-time high but make no mistake the real value of a currency is in its interest rate, so a hike will likely send the Dollar Index past the 100 barrier. In the absence of technical volume, any pull back off the 100 level could be temporary. I guess we have to wait for the FED to decide. Roll on December...