But, that seems like the most irrational fear. The Fed has said they will not raise interest rates until the economy is strong enough, which means unemployment is trending lower and inflation is dead. Isn’t that really good news? So, Fed-watchers and the guy-in-the-street should be happy when the Fed raises interest rates, because the economy is stronger, right? Who doesn’t want a stronger economy?
To Wall Street, however, it is not good news for two reasons. The traditional reason is that an interest rate increase will cause expenses at companies to rise — in order to pay increased interest costs. In today’s market, however, that situation hardly exists. During the last six years of extremely low interest rates, most companies have largely refinanced their floating rate bank debt into fixed rate corporate bonds.
More importantly, there is the pervasive fear that the first interest rate increase will begin a series of rate increases, ending at the “terminal point” of about 6% or so, which would cause huge losses in the bond market. A minor increase of .25% will cause little more than a ripple in the bond market. However, pricing in a huge increase, like the terminal point, will crush the bond market.
Frankly, I think this concern is misplaced. First, I don’t think the Fed will move next month, as Wall Street does expect. Second, when the Fed does move, it is more likely to be “one and done” than a series of rate increases. They need to prove their “street creds” that they have the courage and will actually increase rates, but they have no desire or need to do it more than once, especially when the global economy needs the U.S. economic engine so badly. And, in the absence of inflation, why should they?