FOMC “dot plots” versus Fed funds rate
Source: U.S. Federal Reserve, FS Investments, as of September 30, 2021. Orange line represents the actual path of the Fed funds rate. Black and gray lines represent the median Fed funds estimate included in the projections of the December FOMC meeting.
- U.S. Treasury yields have continued their gradual march higher in October as inflationary pressures continue to mount. At the same time, investors increasingly expect that the Fed will take action to curb inflation sooner rather than later, particularly as policymakers themselves have adopted a more hawkish tone recently.
- It should be noted, however, that investors and the Fed have both historically tended to get ahead of themselves when it comes to the timing of rate hikes. The chart compares the path of the actual Fed funds rate (orange) to the FOMC’s expectations for the Fed funds rate (black lines).1 To highlight one example, in December 2014, Fed’s own “dot plot” anticipated that rate hikes would commence in January 2015 and end in December 2017, with the Fed funds rate rising as high as 3.6%. The actual path of the fed funds rate was much slower and lower.
- The Fed has already signaled that it will begin to taper its asset purchases in Q4—its first step toward tightening monetary policy. Yet investors increasingly expect that the Fed also will enact its second step, rate hikes, sooner rather than later.
- Tightening monetary policy could have a range of impacts on the economy and markets, potentially further denting returns on core fixed income and other longer-duration investments, for example, while also shifting market leadership between value and growth stocks again.
- With expectations for rate hikes consistently higher than the actual fed fund rate, investors may be prudent to remain flexible and dynamic within their portfolios today as the Fed may well wait longer to raise rates than the market currently expects.