Back to All Posts

10 minutes

Key Points for the Week

  • The Federal Reserve raised rates 0.25% and announced it expects to raise rates six more times this year.
  • U.S. retail sales rose 0.3%, below expectations for a 0.4% increase. Most of the increase was due to rising prices rather than increased sales volume.
  • The S&P 500 soared as large growth stocks rebounded from recent declines.

Markets were reassured by the Federal Open Market Committee (FOMC)’s actions last week.

The FOMC met on March 16 and did exactly what most people expected them to do. They raised the federal funds target rate by a quarter point. Federal Reserve Chair Jerome Powell said the Fed expects to continue to raise rates and reduce its balance sheet during 2022 to lower inflation.

The bond market appeared to give the Fed a vote of confidence. The yield on the two-year UST, which is the maturity that’s most sensitive to expectations for future rate hikes, rose from 1.75 percent at the end of last week to 1.97 percent. The yield on the benchmark 10-year UST also increased, but not by as much.

Randall Forsyth of Barron’s reported, “…moves in the Treasury market add up to a marked flattening in the slope of the yield curve, a classic signal the market foresees a slowing of real growth along with an eventual diminution of inflation pressures.”

In an ideal circumstance, the Fed would engineer a “soft landing” by pushing demand for goods down just enough to quash inflation without causing the U.S. economy going into recession. However, the Putin effect is making the Fed’s job harder. Fed Chair Powell stated:

…the implications of Russia’s invasion of Ukraine for the U.S. economy are highly uncertain. In addition to the direct effects from higher global oil and commodity prices, the invasion and related events may restrain economic activity abroad and further disrupt supply chains, which would create spillovers to the U.S. economy through trade and other channels. The volatility in financial markets, particularly if sustained, could also act to tighten credit conditions and affect the real economy…We will need to be nimble in responding to incoming data and the evolving outlook.

Fed Chair Powell

This Week in the Markets

The Federal Reserve both met expectations and surprised investors at the same time last week. As expected, the Fed raised rates 0.25%, beginning to unwind the sharp rate reductions it implemented to protect the economy during the early stages of COVID-19. The surprise was the announced intention to raise rates six more times this year. Previously the Fed had indicated around three hikes was likely this year.

Retail sales were weaker than in recent periods. The value of sales increased 0.3% last month, missing expectations of a 0.4% increase. Slower growth is a healthy step during inflationary times. Retail sales have risen 17.6% in the last 12 months and that rate of increase, along with a tendency to spend more on goods, has put additional pressure on inflation.

The S&P 500 rebounded from recent weakness. The rally was strongest in growth stocks, which have lagged this year, while the Russell 1000 Growth Index and MSCI ACWI jumped as well. The Bloomberg U.S. Aggregate Bond Index fell slightly as the more aggressive Fed policy pressured government bonds and mortgages. Key housing data and last month’s trade deficit are being released this week.

Interest Rates

The Federal Reserve raised interest rates for the first time since December 2018. While the quarter-point increase was anticipated, the Fed also made large upward adjustments to its forward-looking projections for inflation. In December, the Fed was predicting 2022 inflation would be 2.6%. That prediction has increased to 4.3%.

CTN 03-21-22 Image 1

It is now clear the Fed is responding to inflation concerns with changes in policy that will move markets for many months to come. It forecast an additional six quarter-point increases through the end of the year, which means the Fed is planning to raise rates by 0.25% every meeting for the rest of the year.

The increases are far more than the Fed expected a few months ago. At the meeting in December, it projected the federal funds rate would be at 0.90% at the end of 2022. Now the projection is for around 1.9%, signaling a more hawkish tone that should lessen inflation pressures while also slowing economic growth.

In addition to the rate hikes, the Fed also hinted that it is working on plans to decrease the size of its balance sheet. The balance sheet was expanded through an aggressive bond-buying program that began in 2020 because of the pandemic and only recently stopped. According to Fed estimates, the effect of this quantitative tightening should have the same effect as one additional rate hike this year. With these moves, Fed Chair Jerome Powell shows intent on controlling the inflationary pressures that we’ve been seeing, even if it comes at the cost of slowing the economy.

When the Fed increases interest rates, it directly affects short-term rates. The three-month Treasury bill is now at 0.37%, which is right between the Fed’s target for the federal funds rate of 0.25-0.5%. Long-term rates respond to rate increases but also reflect how the rate hikes will affect the economy and future Fed policy. This week, the market responded by pushing interest rates higher, mainly along the two, three, and five-year parts of the curve. The increase in rates caused some parts of the curve to invert, with the seven-year yield 0.02% higher than the 10-year Treasury yield.

The Fed wants to avoid an inverted yield curve, which is what happens when a bond yields more than other bonds with longer maturities. A miniscule difference between the seven- and 10-year bonds isn’t a big deal. The bigger focus is on periods when very short-term rates (one-year or less) are above long-term rates. In the past the economy has often moved into recession when short and long-term rates become inverted by meaningful amounts.

Reducing its holdings of intermediate and long-term bonds puts upward pressure on interest rates and can help avoid an inverted yield curve. The economic consequences of sanctions and the war in Ukraine also make the Fed’s job more challenging. Sanctions restrain trade, increasing costs while slowing the economy. The projections for GDP growth in 2022 were justifiably reduced to 2.8% from the prediction of 4% in December as economists recognized the impact of the rate hikes.

We’ll likely see continued short-term rates move closer to the yields on long-term bonds, as short-term rates respond to Fed action while the market gauges whether the Fed is tightening too quickly. The intention to raise rates so significantly increases the risk that the economy can’t handle the rapid rise and heads into recession.

The Fed talked a pretty strong game last week, but the policy increases are gradual and thus conditional on how the economy performs. While the Fed is committed to raising rates if inflation remains high, it would prefer no new government stimulus, supply chain improvements, a transfer of purchases from goods to services and more people willing to return to the workforce. The more those items go the Fed’s way, the less likely it will raise rates as rapidly.

The Fed meets about every six weeks. Weeks when there is a Fed meeting could be more volatile as there is lot riding on the Fed charting the right course during this difficult time.

Spring Forward. Fall Back

The idea of daylight saving time was touted by Ben Franklin, but it didn’t really catch on until World War I, reported The Economist. At that time, Britain, France and Germany decided that adding an extra hour of daylight would reduce coal usage and help the war effort, so they moved clocks forward for several months.

Changing time isn’t popular today. A survey taken in the U.S. last November found that, overall, about six in 10 Americans would prefer not to have a time change, reported Kathy Frankovic of YouGovAmerica.

Last week, the U.S. Senate unanimously passed the Sunshine Protection Act, a bill that would make daylight saving time the new permanent “standard time”. If the House of Representatives agrees the U.S. will have later sunsets all year round, beginning in 2023.

There may be economic advantages to adopting daylight saving time. Economists say that restaurants, retail stores and leisure businesses benefit from longer days, reported Angel Adegbesan of Bloomberg. There could be some disadvantages, too. Randyn Charles Bartholomew of Scientific American explained:

Our wakefulness is governed by a circadian rhythm inside us linked to the solar cycle. Although many sleep researchers approve of ending the clock changes, they prefer the use of standard time… Less sunlight in the morning makes it harder for us humans to get started in the day, and more sunlight in the evening makes it harder to get to sleep. Darkness is a signal that it’s time to start producing more melatonin, which is our body’s cue to lower internal temperature and start feeling sleepy. Early morning light causes our bodies to stop melatonin production so we can feel wakeful throughout the day.

Randyn Charles Bartholomew, Scientific American

That may be why making daylight saving time permanent was so unpopular the last time Congress did it, in the 1970s. The law was repealed after 16 months.

IRS Issues Identity Theft Warning

The IRS is reminding taxpayers to be vigilant and watch out for IRS impersonation scams intended to trick them into providing their personal and financial information. Some of the schemes included text message, e-mail, and phone scams. The IRS also warns people to be aware of potential unemployment fraud.

Text Message Scams

If you receive an unsolicited text message claiming to be from the IRS or a program linked to the IRS, take a screenshot of the message and email it to phishing@irs.gov with the below information:

  • Date/time/time zone the text message was received.
  • Phone number that received the text message.
  • Do not click on links or attachments from suspicious or unexpected messages.

E-mail Phishing Scams

Please be aware that the IRS does not contact taxpayers by email to request personal or financial information. Most of the time, the IRS will contact taxpayers through regular mail delivered by the United States Postal Service. Similar to a potential text message scam, report the email to phishing@irs.gov by sending the suspicious email as an attachment.

Phone Scams

The IRS (and its authorized private collection agencies) will never:

  • Call requesting immediate payment using prepaid debit cards, gift cards, or wire transfer.
  • Threaten to arrest a taxpayer by bringing in law-enforcement or local police.
  • Demand taxes be paid without the opportunity to question or appeal the amount owed.
  • Ask for credit or debit card numbers over the phone

Unemployment Fraud

Organized crime rings have started using stolen identities to claim unemployment or other benefits for which the taxpayer never applied. Victims of unemployment identity theft may receive:

  • Mail from a government agency about an unemployment claim or payment they did not file.
  • An IRS Form 1099-G reflecting benefits that were not expected or received. The form itself may also be from a state for which the taxpayer did not file for benefits.

For information on necessary steps to take for suspected unemployment fraud, taxpayers can visit the U.S. Department of Labor’s fraud page here.

The IRS focuses on tax-related identity theft and suggested taxpayers take the below steps if they feel their Social Security number has been compromised:

  • Respond immediately to any IRS notice and call the number provided.
  • Complete IRS Form 14039 (Identity Theft affidavit).
  • Continue to pay their taxes and file their tax return, even if it must be done by paper.
  • For specialized assistance, call 1-800-908-4490.

If you have any questions about this information, please contact us.

Did you Know? This Week in History

March 22, 1765: Stamp Act Imposed on American Colonies

In an effort to raise funds to pay off debts and defend the vast new American territories won from the French in the Seven Years’ War (1756-1763), the British government passed the Stamp Act on March 22, 1765. The legislation levied a direct tax on all materials printed for commercial and legal use in the colonies, from newspapers and pamphlets to playing cards and dice.

Though the Stamp Act employed a strategy that was a common fundraising vehicle in England, it stirred a storm of protest in the colonies. The colonists had recently been hit with three major taxes: the Sugar Act (1764), which levied new duties on imports of textiles, wines, coffee and sugar; the Currency Act (1764), which caused a major decline in the value of the paper money used by colonists; and the Quartering Act (1765), which required colonists to provide food and lodging to British troops under certain circumstances.

This was not the first act that was enforced on the colonies by the British, and with the passing of the Stamp Act, the colonists’ grumbling finally became an articulated response to what they saw as the mother country’s attempt to undermine their economic strength and independence. They raised the issue of taxation without representation, and formed societies throughout the colonies to rally against the British government and nobles who sought to exploit the colonies as a source of revenue and raw materials.

The act was eventually repealed by the British government the following year, but by this time the colonies frustration had reached a point of no return, leading to the American Revolution only a decade later.

Weekly Focus

Morning comes whether you set the alarm or not.

Ursula K. Le Guin, American Author

If you can’t be kind, at least be vague.

Judith Martin, American Columnist