The Federal Reserve typically releases a short press release after its two day FOMC meeting, with a general overview and its decision on interest rates. A month later, they release the actual minutes of the meeting which is much more detailed than the press release. Analysts will often compare the language between two consecutive releases in order to identify changes in the Fed’s perception of the state of the economy and monetary policy.
The Economic Forecast section of the minutes gives the Fed’s forecast for GDP, unemployment, and inflation for the next three years. It also provides the forecast from the previous meeting. The use of forecasts helps provide more granularity than the typical language of the Fed, which is often very general, and tells analysts very little.
The Fed lowered its unemployment forecast downward in the June FOMC meeting
Compared to the March report, the Fed lowered its forecast range to 7.2%-7.3% from 7.3%-7.5% for 2013 unemployment, in spite of taking down its GDP forecast slightly. The drop could read one of two ways: either (a) the Fed expects growth to pick up and slack in the labor market to drop, or (b) they expect the labor force participation rate to remain depressed, or even fall. The labor force participation rate is at its lowest level since the Carter administration at 63.3%. A low labor force participation rate can actually drive unemployment lower due to the fact that the unemployed give up looking for a job. Since the pool of available labor shrinks, unemployment can fall even though jobs are not being created. 2014 numbers were revised down from a range of 6.7% – 7.0% to a range of 6.5% – 6.8%. 2015 was revised down as well, from a range of 6.0% to 6.5% to 5.8% – 6.2%. Given the Fed’s guidance of 6.5% as a threshold for starting to increase rates, our first Fed Funds rate hike could in fact be a 2014 event.
Effect on the mortgage REITs
These revisions help explain why the Fed decided to start thinking about tapering quantitative easing in the June meeting. Unemployment forecasts were taken down by 20 basis points or so per year. Their GDP forecast was tweaked slightly, as was inflation. The Fed’s economic forecasts have been pretty consistently high compared to most Wall Street estimates, so it is possible that QE could last a while longer.
This means that mortgage REITs like Annaly (NLY), American Capital (AGNC), MFA Financial (MFA), Hatteras (HTS), and Capstead (CMO) will be on the defensive for the foreseeable future. While ending quantitative easing is more or less baked in the cake with respect to their stock prices, if it looks like the Fed is going to start raising short term rates sooner than expected, then REITs could have another leg down.
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