Investors believe Federal Reserve certain to hike rates

The FEDThe vast majority of investors believe the US Federal Reserve will raise rates today, in a move that would end an unprecedented period of near-zero rates.

At 14:30 EST, Federal Reserve chair Janet Yellen will hold a news conference, at which she is widely expected to end the seven-year policy of maintaining interest rates at 0.25%. The rate was originally introduced by Yellen’s predecessor Ben Bernanke, at the peak of the financial crisis.

The expectation follows statements earlier this month by Yellen to the US Congress’ joint economic committee, to the effect that the US economy was now strong enough to weather a rise. Karl Steiner, chief quantitative foreign exchange strategist at Nordic bank SEB, notes markets are pricing in a 76% chance of a hike, and only three Federal Reserve observers out of 101 expect rates to remain unchanged, according to a Bloomberg poll.

David Oliphant, executive director of fixed income at Columbia Threadneedle Investments, notes most market participants expect the Fed to raise rates by 25 basis points. He urges investors to view the move as the “start of a process of normalisation” and not the implementation of tight monetary policy.

“The reasons for this adjustment appear clear on the surface. The economic growth rate and core inflation are out of kilter with near-zero interest rates,” Oliphant says.

“However, in a global environment of slow growth and deflationary pressures, and where negative interest rates are part of the European Central Bank’s policy, a shift away from easy policy must be implemented carefully.”

Any upwards move will have implications for most asset classes, and many regions of the world. Sylvain de Ruijter, head of global fixed income at NN Investment Partners (NNIP), says the rise will be key for bond markets, with tightening rates potentially having a further downward impact on already depressed yields.

Despite this prospect, research conducted by NNIP suggests over twice as many institutional investors intend to increase their exposure to investment grade fixed income over the next three years, compared with those who will decrease it.

“Income from investment grade and high yield credit has become attractive in the last few months,” de Ruijter says.

Of the institutional investors surveyed by the firm, 39% believed they would increase exposure in the near future, compared to 16% who said they would not. The most common reason cited for increasing exposure was a desire for and security of income (31%). One in four (26%) said it was because of the need to match liabilities, while 22% said they expect market conditions to deteriorate and they provide a safe haven; another 17% said investment grade bonds have traditionally benefitted from enhanced liquidity.

For many, rising rates are nothing to fear – and, in fact, are good news. An outlook note published by Fidelity Investment states past experience shows the US stock market was materially higher one year after the first rate hike in each of the last four hiking episodes.

If and when the rate rise is implemented, investors will then look ahead to when further hikes will occur, and how sizeable they will be. Oliphant expects the rate will reach between 1 – 1.25% by the end of 2016, in small increments.

©2015 funds europe