- No rate hike this week but FOMC likely believes it remains on plan for two more rate hikes and balance sheet reduction
- U.S. April vehicle sales expected to partially recover after March plunge
- U.S. Q1 earnings are even better than expected
- Congressional spending deal means several months of fiscal peace before the battles royal this autumn
No rate hike this week but FOMC likely believes it remains on plan for two more rate hikes and balance sheet reduction — The FOMC at its 2-day meeting beginning today is expected to leave its funds rate target range unchanged at 0.75%-1.00%. There will be no Yellen press conference this week or updated Fed dots. The markets will therefore have to rely on Wednesday’s post-meeting statement to note any shifts in Fed policy along with speaking engagements this Friday by Fed Chair Yellen, Fed Vice Chair Fischer, and regional Fed presidents Williams, Evans, and Rosengren.
The odds for a Fed rate hike this week are remote at 13%, according to the federal funds futures market. A rate hike this week would be far too aggressive since the FOMC just raised its funds rate target by +25 bp to 0.75%-1.00% at its last meeting on March 14-15. The odds for a Fed rate hike at the next FOMC meeting on June 13-14 are significantly higher at 70%.
The Fed this week has two main reasons to stand pat other than timing. First, the Fed is still facing the fall-out from last Friday’s very weak Q1 GDP report of +0.7%, which caused substantial concern about non-existent consumer spending. Second, the French go to the polls this Sunday in the second round of the French presidential election. In the unlikely event that far-right Marine Le Pen were to win Sunday’s election, the Fed would then face a whole new set of problems emanating from Europe since Ms. Le Pen would be pushing for France to leave the Eurozone.
The key factor to watch that will determine the near-term course of Fed policy is whether U.S. consumer spending revives from its dismal Q1 pace. The Atlanta Fed GDPNow on Monday came out with its first forecast for Q2 GDP growth and it was very strong at +4.3% (+3.4% ex-inventories). That forecast is based solely on assumptions at this point rather than any incoming data. However, GDP growth in excess of +3% in Q2 would clearly give the Fed a sufficient basis for more rate hikes this year. GDPNow is forecasting that consumer spending will rebound to normal levels in Q2, contributing +2.0 points to GDP, and that business investment will remain strong in Q2 even after the Q1 surge.
The market still doubts the FOMC will come close to the rate-hike regime outlined in the Fed-dot forecasts. The Fed-dot median forecast is for three rate hikes per year in 2017, 2018, and 2019, which would bring the funds rate to 3.00% by the end of 2019. However, the market believes the Fed will do only 1-1/2 more rate hikes this year. The market is expecting a total of about four more rate hikes to 1.81% through the end of 2019, which would be almost five rate hikes short of the Fed’s plan to push the funds rate up to 3.00% by the end of 2019.
FOMC members this week will undoubtedly begin a more in-depth discussion about their balance-sheet exit strategy. The FOMC currently expects to change its balance sheet policy “later this year,” according to the minutes from the March FOMC meeting. The Fed is expected to curb its reinvestment policy so that its balance sheet starts falling passively as maturing securities roll off. However, there are major questions about how quickly the Fed plans to allow its balance sheet to drop and the ultimate target for the size of the balance sheet.
U.S. April vehicle sales expected to partially recover after March plunge — The markets will be watching today’s vehicle sales report very closely to see if consumer spending on vehicles recovers in April. The consensus is for today’s Apr total vehicle sales report to partially recover to 17.15 million units from 16.53 million in March when bad weather hurt vehicle sales. However, the expected April report of 17.15 million would still be below the 12-month trend average of 17.4 million and also below the Jan-Feb levels near 17.5 million. The key question for the markets at present is whether U.S. consumer spending will revive in April. Today’s April vehicle sales report will start to provide some of the answers about where consumer spending is headed in Q2.
U.S. Q1 earnings are even better than expected — This will be the last big earnings week with 114 of the S&P 500 companies scheduled to report during the remainder of the week. Q1 earnings season has been even better than earlier expected. The consensus is now for Q1 SPX earnings growth of +13.6% (+9.3% ex-energy), which is better than the expectations of +10.2% when the quarter began, according to Thomson I/B/E/S. Of the 288 SPX companies that have reported, 76.7% have been above-consensus, much better than the long-term average of 64% and the 4-quarter average of 71%, according to Thomson. Moreover, 65% of companies reported above-consensus revenue, better than the long-term average of 59%. The consensus is for strong SPX earnings growth of +11% in 2017 and +12% in 2018 following negligible growth in 2015-16.
Congressional spending deal means several months of fiscal peace before the battles royal this autumn — Congressional negotiators Sunday night reached a spending deal for the remainder of fiscal 2017 (though Sep 30). That was good news for the markets since there will be no U.S. government shutdown this spring. The House and Senate this week will both be able to vote on the spending bill at a leisurely pace, sending the bill to President Trump for his signature before the continuing resolution expires this Friday at midnight. The markets will now have several months of peace on the fiscal front until the next showdowns arrive this autumn. Spending authority for fiscal 2018 will have to be passed by October 1 and the debt ceiling will have to be raised by October or November.