Today is Fed day in the markets with the Federal Open Market Committee (FOMC) making the next interest rate decision in a few hours. Market participants are broadly expecting another rate hike and if that were to happen it will mark the 6th time the Fed has raised rates since the financial crisis. It will also be the first under the new Fed Chairman Jerome Powell.
Fed days are pretty standard stuff for traders and there’s typically two basic points of interest we’re looking at.
1) The Federal Funds Rate
The Fed Funds Rate is the rate at which depository institutions (banks and credit unions) lend reserve balances overnight to other depository institutions on an uncollateralized basis.
When you hear market participants talking about the interest rate this is typically what they are referring to. Unless they specifically mention a duration yield like the 10 year or 30 year for example, otherwise “the interest rate” is this Fed Funds Rate so it’s an important headline number. We’re currently sitting at an effective rate of 1.43% but this will likely increase today.
2) The Dot Plot
This is a relatively new data point that investors really enjoy obsessing over. Since 2012 the Fed began releasing a chart showing estimates of what the Federal Funds Rate should be.
Each member of the Federal Open Market Committee assigns a dot representing what they believe the appropriate rate should be going forward 3 years as well as a long run projection. What most investors target is that median point representing the most common opinion among FOMC members. They can vary quite substantially as you will see in the plot below but we are interested in that consensus median point.
The current Fed Funds Rate range is 1.25% – 1.50% and this dot plot can give an important insight as to what to expect going forward. The last dot plot released showed the median consensus range of 3.00% – 3.25% by the end of 2020 and slightly lower than that long term.
Dot plot as of December 2017:
If you look at the median points for 2018 you’ll notice the consensus range is 2.00% – 2.25%. That represents an expectation for 3 rate hikes in 2018. Investors will be scrutinizing this carefully today to see if it remains the same or whether it perhaps ticks up to an expectation of a 4th rate hike in 2018.
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