FOMC: Low Interest Rates to Stay for “Considerable Time”

Record low interest rates on U.S. Treasuries are here to stay, despite expectations a year ago that the end of the quantitative easing would pressure stocks and bonds by causing yields to rise.

Record low interest rates on U.S. Treasuries are here to stay, despite expectations a year ago that the end of the quantitative easing would pressure stocks and bonds by causing yields to rise.

Seeing low labor participation and minimal threats of inflation, the Federal Open Market Committee announced on Wednesday afternoon that moderate economic activity was putting little pressure on the Federal Reserve to raise interest rates. “On balance, a range of labor market indicators suggests that underutilization of labor resources is gradually diminishing,” the FOMC said in their statement.

However, the FOMC also noted that the slow decline in labor underutilization meant that there was limited cause for additional stimulus through monetary policy, keeping the Fed away from a new round of monetary expansion. Goldman Sachs chief economist Jan Hatzius said the move is “clearly a hawkish change and a big surprise that they see quite so much progress on the employment side.”

The FOMC said it would end its asset purchase program in October, as the quantitative easing program begun in 2012 known as QE3 winds down. Some analysts have previously said that an end to QE3 could constrain money velocity and cause inflation and economic growth to reverse, possibly inviting deflation.

However, the FOMC believes that the Federal Reserve’s rollover of existing assets will provide sufficient liquidity. “This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions,” said the FOMC.

Stocks Fall, Bonds Stable

Stock markets had a muted but slightly negative response to the news, with equities accelerating their intraday losses shortly after the announcement at 2:00 on Wednesday afternoon, but equities quickly reversed by the end of trading on Wednesday. Economists at one investment bank said to clients in a private note that the end of QE would not necessarily end the bull market that has continued since 2012, encouraging investors to “buy the dip.”

Stocks began an extreme sell-off earlier in October as traders anticipated a bearish end of QE. At the end of QE1 and QE2, stocks lost over 10% of their value as a loss of liquidity meant less cash was chasing assets, causing demand, and thus prices, for stocks to fall. Anticipating a similar move at the end of QE3, traders began deleveraging positions to avoid a short squeeze.

On October 16th, the markets reversed course after St. Louis Federal Reserve President James Bullard hinted that a new round of QE could be in the pipeline if the market saw a sudden reversal. Stocks immediately rebounded.

Bonds saw roughly stable yields after the FOMC announcement, as traders kept steady bets on low inflation and low interest rates for the near term. U.S. Treasury 10-year yields rose 3 basis points from their open during Wednesday’s trading, remaining near their lowest level for the year at 2.33%.

U.S. Treasuries have seen nearly 70 basis point fall in yields in 2014, despite many expectations at the beginning of the year that rates would rise in 2014. Currently, many economists believe yields on 10-year U.S. Treasuries will not rise before the end of 2015.