Death Taxes and Interest Rates?

“In this world, nothing can be said to be certain, except death and taxes.”

Benjamin Franklin

Although famously attributed to a Benjamin Franklin letter written in 1789, Christopher Bullock’s saying might need updating given the apparent certainty of an interest rate hike by the Federal Reserve in March.

Based on CME’s FedWatch tool there is now a 100% probability that the outcome of this month’s FOMC meeting will be an interest rate hike. Per this same tool, it is not a question of whether we will see an interest rate hike by the Fed this month, but rather by what percentage the Fed Funds rate will be raised.

The current probability that this month’s FOMC meeting will result in a 75 to 100 (3/4 to 1% rate hike) basis point rate increase is 90.8%. The probability that interest rates will go up by 50 to 75 basis points is at 9.2%. Of course, the sum of these two numbers is 100%. If this probability is correct, we might have to update the saying about certainty. For at least this month, interest rates may be another certainty, along with death and taxes.

There is uncertainty in certainty

What is uncertain is what the net effect of an interest rate hike will have on the financial markets, and whether current pricing has been factored into a rate hike. Statements made by various members of the Fed began to emerge over the last month. This led up to chairwoman’s Janet Yellen’s speech in Chicago last Friday. It seems the Fed wants to communicate that a rate hike is pretty much etched in stone and is one of the results emerging from the upcoming FOMC meeting set to begin on March 14.

Over the last couple of weeks, we have seen US equities and the precious metals trade under pressure, with the US dollar gaining strength in value in tandem.

This is an example of the adage “buy on rumor and sell on fact,” which looks to explain how upcoming fundamental events will be factored into the market before the onset of that event. Over the last few weeks, we have seen this adage in play, as traders and investors bid up the US dollar, which would gain value on an interest rate hike.

If this 100% certainty of an interest rate hike comes to pass, the knee-jerk reaction could be minimal as expectations have factored this event into current pricing. However, if by some chance no interest rate hike is announced, or if the rate hike is out of the realm of projections (such as a 25 or 200 basis point change), then financial markets would quickly react to factor in this new information.

US Dollar strength and precious metals weakness

At least for today, this high probability of a rate hike has resulted in a stronger US dollar, which is up approximately a quarter of a percent at 102.07. It has also resulted in weaker pricing in gold, which is off by over a half a percent at $1209. Whether or not the certainty of an interest rate hike is completely factored into the market could be viewed as the final piece to the current financial puzzle.

Wishing you as always, good trading,