Month in Cash: The end of low-rate frustration is almost in sight
Even when you think that you know something, it’s still nice to get confirmation. It seemed as clear as can be that bad weather skewed figures in March and held back an economy we thought was improving. The month verified this. We are starting to head back in the right direction and are beginning to see that the slushy data was keeping the economy from gaining traction. People simply weren’t going to go out to buy cars or houses when it was zero degrees with a foot of snow. But as the month progressed, we saw fewer weather-related slowdowns and more of a pick-up, with nonfarm payrolls and jobs, manufacturing and various regional surveys becoming positive.
From a rate perspective, the frustration is ending. We haven’t seen the light at the end of the tunnel yet, but we can at least imagine seeing it. The Federal Open Market Committee (FOMC) meeting last month furthered this optimism when new chair Janet Yellen announced the continuation of its monthly tapering of asset purchases, lowering the amount of Treasuries and agencies being purchased to $55 billion from $65 billion per month. The Fed also moved away from the quantitative approach to forward guidance that had been in place. It is not that the Fed was saying that unemployment and inflationary statistics are no longer important, but rather that they felt a broader, less-quantitative approach was merited. The FOMC statement indicated that the current target range would be in place for a considerable period of time after QE ends, which, if the Fed keeps on the current pace of reduction, could be in late 2014.
Or will it? In her question-and-answer press conference after the FOMC announcement, Yellen went on to describe “considerable” as around six months. Many analysts felt Yellen misspoke, perhaps flustered by the peppering of reporters’ questions, but FOMC members didn’t race to soften her comments. Maybe more telling was the summary of economic projections released at the time of the announcement; here, the majority of FOMC members thought that tightening would commence in 2015, with an average projection for the fed funds target at year-end 2015 in excess of 1%. With that outlook, in the second half of 2014 we would expect to see a slight steepening of a yield curve that is quite flat now. The bond market seems to bear this out by the fact that few are buying March bonds. With an expectation that rates might actually be increasing, the portfolio strategy is not to buy the longest thing out there at this point in time. Instead, investors are keeping weighted-average-maturities relatively steady, buying more floating-rate positions and shortening the barbell. There is not much demand in that 12-month, fixed-rate sector at this point.
Reverse repo facility helps
The impact of the Fed’s overnight reverse repo facility—extended to 2015 at the earliest, continues to be helpful. The rate was at five basis points the entire month of March, although policymakers did up the ante for participants from $5 billion to $7 billion. We are grateful that the Fed facility is in place, particularly on month end and quarter end dates when collateral supply is often difficult to find. We are watching closely, however, the impact that the developing facility might have on our more traditional sources of investment.
So for now, we are inching closer to the time period when rates will go up. It was 2011 when they first started talking about 2015, which seemed a really long way away. But it is not anymore. It seems a little less frustrating and a little more realizable.