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Expecting a Fed rate hike? Be prepared to wait

July 12, 2013

Vanguard's Economic Week in Review

All eyes were once again on the Federal Reserve this week, as policymakers are still debating the Fed's massive bond-buying program. Minutes from the Fed's June meeting, along with subsequent remarks from Fed Chairman Ben Bernanke, delivered divergent signals on both the amount and duration of its so-called QE, or quantitative easing stimulus initiative. Other reports for the week showed increases in producer prices and consumer credit.

For the week ended July 12, 2013, the S&P 500 Index rose 3.0% to 1,680 (for a year-to-date total return—including price change plus dividends—of about 19.2%). The yield on the 10-year U.S. Treasury note fell 12 basis points to 2.61% (for a year-to-date increase of 83 basis points).

Fed minutes mixed

Anyone looking for clear signals on the Federal Reserve's QE program likely was disappointed, as minutes from the Fed's June meeting showed a split among its policymakers. Fed officials are divided on how long to continue the $85 billion monthly bond-buying initiative, as well as when to begin tapering off the program and by how much.

However, there seems to be a solid consensus that the Fed will maintain its target for short-term interest rates at extremely low levels for the foreseeable future. Fed policymakers have said that they don't anticipate increasing short-term rates until after the unemployment rate improves to at least 6.5%. Based on the latest figures from June, the unemployment rate is 7.6%.

"Many members indicated that decisions about the pace and composition of asset purchases were distinct from decisions about the appropriate level of the federal funds rate," as noted in excerpts from the meeting minutes. In a post-meeting press conference, Chairman Bernanke said the central bank could reduce its bond purchases later this year, provided the economy sufficiently improves.

"Market participants may have been confused in believing talk of tapering implied a rise in short term rates sooner than expected," said Vanguard economist Andrew J. Patterson. "After seeing the volatility in asset markets following Chairman Bernanke's statements in June, various Fed governors as well as Bernanke himself have addressed these concerns in subsequent communications. The FOMC intends to keep short term rates near zero for a considerable period even after asset purchases are slowed and eventually stopped.

Producer prices up

U.S. wholesale prices, as measured by the Producer Price Index (PPI), jumped in June by a seasonally adjusted 0.8%, fueled primarily by a 2.9% increase in energy prices. Higher gasoline prices reflect seasonal demand and the price of crude oil, now above $100 per barrel. The cost of other goods, from passenger cars to food, also rose in June. Overall prices were up 2.5% from a year ago, but core PPI, which excludes food and energy, increased a modest 0.2% from May and only 1.7% year-over-year, tamping down any inflation fears in the short term. The PPI numbers are a timely input into the Fed's ongoing discussion over its bond-buying program and decisions about the direction of short-term interest rates.

Consumer credit rises

Consumer demand for credit jumped to $19.6 billion in May as student loan amounts continued their upward pace. Non-revolving credit, including auto and student loans, accounted for $13.0 billion of the increase, while revolving balances, such as credit cards, were up $6.6 billion. The overall increase marked the highest level of consumer debt since May 2012, paced by low interest rates on big-ticket purchases.

The economic week ahead

Next week is a busy one for economic reports, beginning Monday with retail sales and business inventories, followed by industrial production and consumer prices on Tuesday. Wednesday brings new residential construction and economic readings from the Fed's Beige Book. Leading indicators from The Conference Board will be released on Thursday.

Summary of major economic reports
Date Report Actual
value
Consensus
expected value
10-year note yield S&P 500 Index
July 8 Consumer Credit (May)
Source: Federal Reserve Board
+$19.6 billion +$12.5 billion –8 bp +0.5%
July 9     0 bp +0.7%
July 10 FOMC Minutes
Source: Federal Reserve Board
+5 bp 0.0%
July 11 Initial Jobless Claims (week ended July 6)
Source: Labor Department
360,000 340,000 –10 bp +1.4%
July 12 Producer Price Index (June)
Source: Labor Department
+0.8% +0.4% +1 bp +0.3%
  PPI, except food and energy (June)
Source: Labor Department
+0.2% +0.2%    
      Weekly change –12 bp +3.0%

bp=basis points. 100 basis points equal 1%. For example, if a bond's yield rises from 5.0% to 5.5%, the increase is 50 basis points.

Notes

  • The economic statistics presented in this report are subject to revision by the agencies that issue them. For more information on the reports mentioned in this article, read our Guide to major U.S. economic reports.
  • All investing is subject to risk, including possible loss of the money you invest.
  • Past performance is no guarantee of future returns. The performance of an index is not an exact representation of any particular investment, as you cannot invest directly in an index.
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