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A March Rate Hike Is Looking Likely

March 6, 2017

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Sentiment continues to shift to an interest-rate increase occurring sooner than later. In fact, more people are giving meaningful odds for the Federal Reserve to raise interest rates this month. 

We refer to traders in federal funds rate futures contracts. (These contracts enable people to speculate on, or hedge, the future price of the fed funds rate.) As recently as a couple weeks ago, traders were giving scant odds that the Fed would raise the fed funds rate this month. As we write, these contracts are priced for a 68% chance of a rate increase when Fed officials convene again in two weeks.

Should the Fed raise the fed funds rate, it’s likely to raise it no more than 25-basis points. (Actually, the Fed raises the fed-funds-rate range, which would increase to 75 basis points-to-1 percentage point from 50 basis points-to-75 basis points.) If the Fed raises the fed funds rate this month, we could see a total of three 25-basis-point increases by the end of the year. Indeed, traders are giving the best odds that the fed funds rate will range between 1.25% and 1.50% when we head into 2018. 

As for our prediction to start 2017, we thought one increase was all that was guaranteed. A March increase would put our prediction on the outs. 

So, why the change in sentiment? 

The odds for three increases spiked after President Trump’s speech last Tuesday. Trump offered a lot in the way of economic spending, which could pressure wages and consumer prices to rise.  New York Fed President William Dudley further stoked expectations when he said that “a case for raising rates has become a lot more compelling” on the same day as Trump’s speech. As president of the New York Fed, the most influential of the 12 Fed banks, Dudley’s opinion matters more than most. 

We mentioned last week that 30-year mortgage rates could hold near 4.25%. Our rationale was based on the Fed’s balance sheet, which still supports ample market liquidity. Given that consumer-price inflation continues to hover just at the Fed’s stated 2% annual goal, it could still take a while for today’s fed-funds-rate increases (which targets overnight lending rates among commercial banks) to work their way to the long end of the curve. 

That said, we still stand by our prediction that we won’t see regular sub-4% (on a national average) quotes on a prime 30-year conventional mortgage anytime soon. We also don’t believe that we’ll see quotes exceed 4.5% and hold above that level either.

But we offer a caveat: Consumer-price inflation is key. If consumer-price inflation begins to trend higher, mortgage lending rates (along with most interest rates) are sure to tag along. 

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