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Fed Chair Janet Yellen concluded the two-day FOMC meeting by saying that policy rates would remain unchanged and labor markets have continued to improve. Recent weakness in economic data has been mostly weather-related.
What is the Federal Open Market Committee?
The Federal Open Market Committee is a monetary policy–making body in the U.S. The committee oversees and controls the open market in the U.S., which comprises buying and selling U.S. Treasury securities. The committee meets eight times a year (at an interval of five to eight weeks) to set the country’s monetary policy by specifying the short-term targets for the federal funds rate. Currently, the federal fund rate is 0.25%. Decisions on interest rate cuts or hikes are based on the committee’s evaluation of inflation levels (whether inflation is too high or too low) and overall economic growth (either too strong, too weak, or balanced). The committee consists of seven Governors of the Federal Reserve Board and five Federal Reserve Bank Presidents. The New York president has a fixed place, and the other four presidents rotate yearly. At present, the committee is chaired by Janet Yellen, the successor of ex–Fed Chair Ben Bernanke.
The interest rate set by the Fed, the federal funds rate, serves as a benchmark for all other rates. Interest rates affect the economy. Higher interest rates tend to slow economic activity, and lower interest rates stimulate economic activity. Interest rates have a major influence in the mortgage and consumer sector. Other things remaining equal, a higher interest rate can hinder sales growth for mortgage lenders and consumer-sector companies, as investors’ demand for homes and cars would decline.
Major companies that operate in the space and are affected by rises in interest rates include AG Mortgage Investment Trust Inc. (MITT), Annaly Capital Management Inc. (NLY), and General Motors Co. (GM). However, when higher interest has been accommodated with a rise in employment levels and wages, consumer demand may still grow.
Market reactions as the FOMC meeting concludes
As the Fed concluded its two-day FOMC meeting of March 18–19, Treasury rates increased, with the Fed announcing its taper would continue as scheduled. The Fed is expected to cut another $10 billion next month. Beginning in April, the Fed would add to its holdings of agency mortgage-backed securities at a pace of $25 billion per month rather than $30 billion per month, and would add to its holdings of longer-term Treasury securities at a pace of $30 billion per month, rather than $35 billion per month.
U.S. ten-year Treasury rates increased by 0.03% on the day of the announcement. Bond market ETF prices declined with the rise in Treasury rates. The iShares Barclays 20+ Year Treasury Bond (TLT) price was down 0.15%, while the Vanguard Total Bond Market ETF (BND) price traded 0.06% lower than the previous day. When interest rates decline, bond prices go up, and vice versa.
Market participants have observed that when bond yields (rates of return) are equal to or more than 5%, they divert more money away from stocks than when they only yield 3% (the level at which U.S. ten-year and 30-year Treasury yields currently trade).
© 2013 Market Realist, Inc.