How the Fed's Smaller Rate Hike Could Affect Investors
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The Federal Reserve's battle with inflation continued Wednesday with an interest rate hike of 25 basis points (or 0.25%) and an indication that more increases are likely on the horizon.
The announcement was expected and smaller than the hikes investors have gotten used to recently. In December, the U.S. central bank raised rates by a half percentage point; the four hikes before that were by 75 basis points (0.75%). The latest increase brings the federal funds rate, the rate at which banks borrow money from each other overnight, to a target range of between 4.5% and 4.75%.
Here's what investors need to know.
What's happening now
The central bank has been hiking interest rates since early last year to fight record-high inflation. High interest rates make it more expensive for financial institutions to borrow money, and a ripple effect makes borrowing money expensive for businesses and consumers as well. That can impact companies' earnings and outlooks, which can in turn weigh on their stock prices. Prices of financial assets — like stocks, bonds and crypto — have been hurting amid the interest rate hikes.
Stocks immediately fell Wednesday afternoon following the Fed's announcement before quickly rebounding.
"No big surprise in today's announcement, either in the level of rate increase or in the accompanying language," Melissa Brown, global head of applied research at financial analytics and index provider Qontigo, said in an emailed statement. "If traders were hoping for indication of a rate cut, they were disappointed."
Others are optimistic and say the Fed is nearing the end of the tightening cycle.
"They are getting ready to sit tight while the economic data catches up to the policy," Charlie Ripley, senior investment strategist for Allianz Investment Management, said via email. "Slowing the pace of rate hikes is a clear sign that the Fed is getting comfortable with the idea that the prescribed policy for the economy is finally starting to work."
Jerome Powell, the chair of the Fed, signaled that the central bank is maintaining its aggressive stance against spiraling consumer prices.
While the Fed said in its press statement that "inflation has eased somewhat," it also said that inflation remains elevated. Inflation fell to 6.5% on an annual basis in December, still much higher than the Fed's target range of 2% in the long run. As such, the Fed anticipates "ongoing increases in the target range will be appropriate," according to the statement.
"The inflation data received over the past three months show a welcome reduction in the monthly pace of increases," Powell said during a news conference. "And while recent developments are encouraging, we will need substantially more evidence to be confident that inflation is on a sustained downward path."
What this means for you
Financial markets have been volatile of late, with the S&P 500 ending 2022 down nearly 20%. The index was up around 8% for the year as of Wednesday afternoon, but experts predict risks remain for the stock market, and that investors should likely brace for more ups and downs.
Financial advisors tend to recommend sticking to an investment plan that takes into account your risk tolerance, goals and time horizon. That's because timing the market is extremely challenging — and near impossible to do perfectly — for both everyday investors and professionals, especially when markets are facing so much uncertainty.
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