Will the US Federal Reserve abandon plans to increase rates in 2016?

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Amidst a tumultuous start to the trading year, traders have weakened their positions for further hikes to the Federal Reserve’s interest rates, citing unheralded volatility in global indexes, weak economic growth and a plunge in commodity prices. Following last December’s rate rise, the first since June 2006, expectations were set for four rate increases across 2016. Now however, on the back of recent weak data including last week’s inflation figures for December, traders are yet to be convinced we will even see one hike for the year. Some economists though, are discounting the market’s forecast and taking a different view, adamant that with core inflation continually creeping higher since May 2015, and with low unemployment, conditions lends themselves towards the FOMC upholding its hawkish outlook. On the contrary, opposing economists believe core inflation’s increase has been largely driven by a surge in rental prices, and that rates will only rise upon signs of notable growth in inflation throughout the course of the year.

The S&P 500 has lost between 8-12% since the Federal Reserve raised rates on the 16th December. Could market volatility lead to the FOMC reversing its stance during 2016? Chart courtesy of Freestockcharts.com

The S&P 500 has lost between 8-12% since the Federal Reserve raised rates on the 16th December. Could market volatility lead to the FOMC reversing its stance during 2016? Chart courtesy of Freestockcharts.com     

Meanwhile, while the US discusses the merits of increasing rates, most advanced economies are holding rates at low levels or looking to decrease further. Last week, also citing global economic concerns, President of the European Central Bank, Mario Draghi, signaled additional stimulus measures could be announced in March to support below-forecast inflation across Europe. Similarly, the Bank of Canada has maintained rates at 0.5% following weak GDP growth across the last year, mostly linked to the rout in commodity prices, a significant decline in the Canadian dollar, and fewer projects to boost the economy – albeit the latter is expected to be addressed later this year through notable spending on infrastructure. Further abroad, New Zealand and Australia are both expected to maintain a dovish stance throughout 2016.

Which way next for US interest rates? Could a return of dovish language from the Fed signal the start of the next bull rally?

Which way next for US interest rates? Could a return of dovish language from the Fed signal the start of the next bull rally?

Attention now turns to the Federal Open Market Committee’s next announcement on the 27th January. Although widely expected to keep rates on hold, emphasis will focus on the statement provided in the hope of any clues for the outlook ahead. Any language suggesting a reversal on the Fed’s course could set the way for a market rally, while suggestions of more rate hikes could unsettle the market further. One thing is for certain, market volatility is here to stay.