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The Fed Strikes Again

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The Federal Open Market Committee (FOMC) voted to raise the federal funds rate to a target range between 1.00 and 1.25 percent. This is the third 25 basis point increase the FOMC has conducted in the past six months. The decision to increase the benchmark rate came on the heels of disappointing inflation and retail sales data (see below for more information), which prompted some analysts to doubt a rate hike would happen. The FOMC acknowledged inflation is running below its target of two percent, but expects the rate to stabilize in the medium term and remains committed to monitoring it closely. The real news coming out of the two-day meeting was information about how the Federal Reserve plans to reduce its $4.5 trillion balance sheet. The Fed outlined in detail its strategy for implementing what they are calling a "balance sheet normalization program." The program will begin with a set amount of securities rolling off per month without reinvestment, with gradual increases each quarter. Federal Reserve Chair Janet Yellen expects to begin the program "relatively soon," provided the economy continues to improve as expected. The quarterly projections from the Fed remained the same, with an additional rate move expected this year and three increases in 2018.

Other Key Indicators this Week:

Inflation – The indices for both producer and consumer prices declined in May. Lower energy prices contributed to declines in the headline numbers. Yet, even without energy, inflation measures were lower or stable. The consumer core price index slowed to 1.7 percent from 1.9 percent a month ago. The drop in the core price measure is more evident when compared to 2.3 percent in January. Core producer prices held steady at 2.1 percent for the second month in a row. The Federal Reserve does not appear as concerned about the moderating level of inflation. Some analysts are suggesting it may not be possible to achieve two percent inflation in the current economic environment. Consumers are more adept at hunting out bargains, and employers are able to replace retiring baby boomers with lower-skilled workers at lower wages.

Retail Sales – The shopping bug was not as big in May as hoped. Retail sales fell 0.3 percent after rising 0.4 percent the prior month. Only five of 13 major categories posted an increase in May sales. Sales at electronic stores declined 2.8 percent, the largest monthly drop in seven years. A decline in gasoline prices brought gas station sales down 2.4 percent. Department store sales fell one percent. On the plus side, Internet sales rose 0.8 percent, the biggest gain of any sector.

Housing Starts – Construction on new homes fell 5.5 percent in May, the fourth monthly decline this year. This is far from the 4.1 percent increase expected. Single-family housing construction fell 3.9 percent; multi-family housing starts retreated 9.7 percent. New construction permits were not much better, falling 4.9 percent. Homebuilders continue to cite lack of skilled workers and usable land as hurdles. Yesterday’s report on builder sentiment revealed builder optimism is slipping. The sentiment index fell to 67 after reaching a 12-year high in March. The six-month outlook declined two points.

Strategically for Credit Unions:

The Federal Reserve rate increase this week brought short- term Treasury yields higher, while longer-term yields remain near the lowest levels of the year. The spread between the two- and 10-year notes closed at the narrowest spread, 79 basis points, since October 2016. Falling inflation levels and concern that the economy may begin to slow continue to drive the long end of the Treasury curve. Some analysts are concerned the Fed may be raising rates too fast.

Sarina Freedland –Senior Investment Officer

Although this information has been obtained from sources we believe to be reliable, we do not guarantee its accuracy, and it may be incomplete or condensed. This is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. All herein listed securities are subject to availability and change in price. Past performance is not indicative of future results. Changes in any assumption may have a material effect on projected results.