Next week the Federal Reserve will raise short term interest rates for only the second time since June 2006, and the first time this year to a range of 50 to 75 basis points. Financial markets are pretty ok by this. The S&P 500 (SPX) is at all time highs, the CBOE SPX Volatility Index (VIX) is very near 52 week and historic lows, the U.S. dollar (measured by the DXY) is at 13 year highs, crude oil is very near 52 week highs and Treasury yields have run ahead of the news. While the impending rate hike is being treated with near certainty, the commentary about the pace of future hikes is not. I suspect the Fed will be very careful in their statement not to signal too brisk of pace to normalize rates in 2017.
What will also be interesting is President-elect Trump’s inevitable Twitter response to the first Fed policy action since the election. Remember, this is an institutions that he has been very critical of. As recently as Sept, he attacked the Fed and specifically its Chair. Yes, as strange as it sounds, people will be glued to Twitter to see if there’s any market moving reaction from the president elect.
Although a raise at this meeting is basically a sure thing, the fact that there is no fear in any risk asset about the Fed’s path forward suggests market complacency. As of last night’s close at $225.15, the SPY is pricing in only a 1.6% move in either direction between now and next Friday’s close. Put another way, if you wanted to buy weekly protection into the week with a Fed meeting, after and epic run in stocks, the at the money put would cost you less than 1%.
Let’s look at where we are. Wednesday’s breakout in the SPX was impressive to say the least, with 2200 looking like a new support level:
Spot VIX really can’t go much lower. But it might be able to stay here for longer than you can hold on to any decaying options. Especially with the upcoming Holidays.
But there are a lot of cross currents.
The 10 year Treasury Yield has broken out above an epic 10 year downtrend:
The US dollar (DXY) looks to be establishing a new range above the prior two highs made last year:
And Crude, despite the strong dollar looks poised to break out of a 6 month range:
There’s some inevitable disruption as we transfer from almost a decade of ZIRP to a rising rate environment. Financial markets have grown accustomed to their surroundings and those surroundings are about to change as power (and policy) shifts in DC just as the Fed wakes up from their 8 year dirt nap.