The Most Important Number to US StocksBy admin_45 in Blog
We’ve come to the conclusion that US stocks are keying off one interest rate-related number, but it is not the US Treasury 10 Year yield that is so commonly mentioned. Yes, the rate on the 10-year did move higher today as equities slipped after the Fed minutes came out, but it did not break out to new highs in terms of yield.
The number to watch is the Fed Funds Futures contract for December 2018.This instrument allows you to see the market’s view on how many times the Federal Reserve will raise interest rates this year. Unlike prices on the 10-Year, December 2018 Fed Funds Futures did slump to a new low after the minutes, indicating a greater chance of incremental Fed moves in 2018.
Here’s how the odds look now, versus a month ago (i.e. before US equities became much more volatile):
Chances the Fed moves 2 times or less in 2018 (assuming 25 basis point moves):
- A month ago: 42.4%
- Now: 36.8%
- Difference: 5.6 points lower odds
Chances the Fed moves 3 times (their current guidance):
- A month ago: 37.1%
- Now: 36.1%
- Difference: 1.0 point lower odds
Chances the Fed moves 4 or more times (a bad outcome for equities, as today’s price action shows):
- A month ago: 20.6%
- Now: 27.1%
- Difference: 6.5 points greater odds
To put some real world context around that 27%, it is about the same odds as flipping a coin twice and getting heads both times (25% odds). In other words, hardly long odds.
The more important point is that the odds of “4 or more” in 2018 continue to climb, and today’s breakout price action in Fed Funds Futures shows they are likely moving higher still. All this will likely make for a tough few days for US stocks. We’re still bullish for the year. For the rest of February, we remain cautious.
Link to CME Fedwatch (source of the odds data): http://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html
Link to Fed Funds Futures (price data and charts): http://www.cmegroup.com/trading/interest-rates/stir/30-day-federal-fund.html