Tomorrow, the Federal Reserve Board is set to announce its latest decision regarding interest rates. Will it be yet another 75-basis point increase, as many expect, or will the Fed indeed “go big” with a 100-basis point hike as some are predicting?
While the answer to that question will be important in the short-term, our eyes are also on where the Fed Funds Rate will likely be at the end of 2023. This, of course, remains a moving target—but as shown by the orange line in the chart, the market currently expects the Fed Funds Rate to sit at around 4.3% at the end of next year. That’s up sharply from an expectation of approximately 1.6% back in January.
That target has risen steadily over the course of 2022 as investors have (somewhat slowly and unwillingly) come to grips with the fact that the Fed fully intends to remain aggressive in its fight against inflation. That realization was further solidified by last week’s August inflation (CPI) report, which showed an unexpectedly sharp rise in core prices. In addition, the gray line in the chart indicates that the Fed is expected to keep rates relatively high through 2024 rather than pivoting and starting to bring borrowing costs down.
This rising trend in interest rates is what we have been calling “higher for longer” for some time now. Tomorrow’s Fed’s statement, and comments from Chairman Powell, will likely emphasize that message exclusively—effectively ignoring growth concerns as the Fed stays laser-focused on inflation.
For investors, this will likely mean continued volatility in asset markets. Since equity market valuations are determined in large part by short-term interest rates—as noted back in August—Fed-driven volatility in such rates likely need to settle down before stock market volatility can do the same. Given these conditions, we plan to maintain our defensive positioning for the foreseeable future while looking for potential opportunities that market volatility may uncover.
This commentary is written by Horizon Investments’ asset management team.
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