Why the Federal Reserve's Interest Rate Hike Could Send Bank of America's Stock Soaring
Bank of America's stock has been on a tear since the presidential election, with analysts and investors speculating that the incoming Trump administration will push through policies that will make it easier for banks to make money. To get a sense for how optimistic Bank of America investors are, all you need to do is look at a chart of its stock over the last few years. See that sharp upturn? That's because of the election. But even though this rally has been great for Bank of America's current investors, myself included, it could lead prospective investors in the nation's second-biggest bank by assets to stay on the sideline, concluding that there isn't any upside left in its stock.
I'm sympathetic to this argument. Over the past week in fact, I've even considered that now may be a good time to sell my shares, given that they've risen more than 70% since I bought them at the beginning of the year. There are two things that keep me from doing so, however. The first is that I'm well aware that investors can rarely call the top. Research has shown that trying to time the market is never a good strategy upon which to base your investing.
Second and just as important, it isn't unreasonable to think that Bank of America's stock could still head higher from here. And it could do so in December if higher interest rates come to fruition. The narrative around bank stocks right now revolves around rising rates. Holding all else equal, if rates go higher, so too will bank profits. And if bank profits head higher, so too should bank stock prices. This is because banks generate revenue by originating loans and then holding them on their balance sheets -- the higher the interest rate they're able to get on their loans, the more money they make. As I've noted frequently of late, Bank of America says it'll earn $5.3 billion in additional net interest income in the 12 months after short- and long-term rates rise by 100 basis points, or 1 percentage point. Long-term rates have already headed in this direction. You can see this in a chart of the yield on 10-year Treasury bonds, the most frequently cited long-term interest rate benchmark. At the beginning of October -- after Bank of America estimated the impact of higher rates on its income statement -- the 10-year Treasury yield was 1.6%. Fast-forward to today and it's nearly 2.4%. That equates to an improvement of nearly 80 basis points. The big question now is whether short-term rates will follow suit. This depends on the Federal Reserve's monetary policy. Fed Chair Janet Yellen has signaled that the central bank is looking to increase rates "relatively soon." And minutes from its most recent meeting, held on the first two days of this month, showed that officials at the central bank wanted the economy to continue improving before they pulled the trigger on higher rates. Since then, that's exactly what's happened, with a wave of positive economic news coming out. The net result is that the Fed could very well end the year with a rate hike, much like it did last year. And if it does so, it'll reinforce the bull case for Bank of America's stock.
- Trump will only benefit those of the same social class as him, such as bank owners and stock holders.
- Maxfield talks about himself, and his own stocks.
- He uses many terms that are confusing to the average American, and he does not explain.
- The banks only wish to make more money
I think the average American will not understand understand this article.
Monetary Policy is a confusing subject. The author uses large and/or complicated words and terms such as "rate hike", "fruition". He also uses phrases such as "call the top", which is not a common, everyday term used. Maxfield explains the concepts of his article very little, he talks about his opinions and his own stocks more than anything.
The everyday person would not understand this article. However, to make this article more understandable, I would recommend using terms that are more simplified.
Maxfield, John. "Why the Federal Reserve's Interest Rate Hike Could Send Bank of America's Stock Soaring." Business Insider. Business Insider, 28 Nov. 2016. Web. 14 Dec. 2016.
How the Fed Should Reset Monetary Policy
The Fed’s unconventional policies in 2008-2009 deserve credit for helping to lift the economy and financial markets from crisis. However, it is striking that in recent years while the Fed’s unconventional policies of sustained negative real Fed funds rate, quantitative easing and forward guidance have successfully stimulated financial markets, lowered bond yields, encouraged risk-taking and boosted asset prices, they have failed in their ultimate objective of stimulating the economy. Nominal GDP growth has actually decelerated to 2.8 percent in the last year from its subdued 3.9 percent average pace of the prior six years, and real growth has languished.
Extending excessive monetary ease well after economic performance normalized and the Fed’s dual mandate was largely achieved has been costly. Instead of stimulating aggregate demand, monetary policies have contributed to mounting financial distortions and disincentives and are inconsistent with the Fed’s macro-prudential risk objectives. Unfortunately, the Fed and financial markets now may be beginning to pay the price for the Fed’s extended excessively easy monetary policy.
Recent trends make it increasingly clear that economic performance has been constrained by factors that are beyond the scope of monetary policy. The economy’s slow growth has much less to do with the Fed than real, nonmonetary issues, particularly growth-depressing economic, tax and regulatory policies. However, the Fed’s excessive monetary ease has not helped and may have harmed economic performance. It has generated mounting financial distortions that eventually must be unwound.
A growing web of government regulations, mandated expenses and higher tax burdens have weighed on banking and the financial sector, business investment, and the broader economic environment. Considered separately, most of these policies have little macroeconomic impact. However, their cumulative effects are large and generally not captured in standard macro models.
While the Fed’s monetary policies have lowered the real costs of capital, the governments’ economic and regulatory policies and related uncertainties have led businesses to raise their hurdle rates required for capital spending and expansion projects. Potentially productive expansion plans have been sidelined. Some government mandated expenses and labor laws have induced businesses to adjust labor inputs, including relying more on part-time workers. With less new capital, employee training has been cut back. Businesses have expanded overseas and bought foreign firms for tax reduction purposes. Businesses have issued more bonds in the Fed’s low interest rate environment, but the proceeds are being used to buy back shares to meet the demands of yield-hungry investors. This raises corporate leverage but not capital spending or productive capacity.
I recommend that the Fed should reset the conduct of monetary policy. It should: 1) raise rates gradually but persistently toward a neutral policy rate consistent with its estimates of potential growth and its 2 percent inflation target, and cease reinvesting its maturing assets, 2) de-emphasize short-run economic and financial fine-tuning and not allow monetary policy to be influenced by global and financial turmoil that does not materially influence US economic performance, 3) shift the focus of its communications, including its official Policy Statements, toward the Fed’s long-run objectives and away from short-run economic and financial conditions that are always subject to volatility, and emphasize that the scope of monetary policy is limited and that the economy is influenced by other factors including the government’s economic and regulatory policies, and 4) shift toward a more rules-based guideline for conducting monetary policy that provides flexibility for the Fed but at the same time avoids the big mistakes of discretionary policy deliberations.
Gradually raising rates would leave monetary policy easy. It would not harm and may even help economic performance. The financial system is awash with excess reserves and the real Fed funds rate is roughly negative 1.3 percent, far below the Fed’s 1 percent estimate of the appropriate long-run real policy rate During prior economic expansions when the Fed has raised rates following monetary accommodation, growth has been sustained. Witness the sustained growth when the Fed raised rates in the early 1980s, mid-1990s, or the mid-2000s. Raising rates would actually stimulate more bank lending and loosen the intermediation process. A clear Fed explanation of why it is normalizing rates—and why there is no need to delay—would boost confidence.
Clarifying a more limited role of monetary policy may not sit well with those who have come to rely excessively on the Fed, but it would constructively reset monetary policy and enhance the Fed’s independence and credibility.
What about fiscal policy? First, the Fed and others have been advocating for fiscal stimulus to boost the economy. It is critically important to distinguish between fiscal reform and fiscal stimulus that simply involves more deficit spending. With the economy in its eighth consecutive year of expansion and growing at a pace close to current measures of potential, and the unemployment rate at or below standard estimates of full employment, countercyclical fiscal stimulus in the form of increased deficit spending is unwarranted and inappropriate.
Second, the focus of fiscal policy should be on tax and spending reforms that raise potential growth. This should involve tax reforms aimed at creating an environment conducive to investment and expansion. Spending initiatives should focus on reallocating spending toward productive activities while reducing wasteful spending, and changing the structure of entitlement programs to lower the government’s future long-run unfunded liabilities. These changes can be made in fair and efficient ways that do not affect current retirees. There is a lot of impetus toward more infrastructure spending. Such initiatives must aim at improvements and upgrades that add to productive capacity and provide benefits that exceed costs, while avoiding the pitfalls and political impulses toward more deficit spending aimed at short-term fiscal stimulus and temporary job creation. Moreover, initiatives that improve education, training and human capital are critically important to improving the nation’s infrastructure.
Third, regarding regulatory initiatives, banking and financial regulations should focus on establishing high capital adequacy standards while easing micro regulatory burdens that constrict bank credit. In the non-financial sectors, reform efforts should involve reducing burdensome regulations that inhibit business investment and expansion and constrict labor mobility and whose economic costs far exceed benefits.
I think the average American would not be able to understand this article
The author also uses many confusing terms such as "fiscal policy" with little to no explanation.
In order to make this article more accessible for the average American, the author would need to explain more.
"How the Fed Should Reset Monetary Policy." Economics21. N.p., 07 Dec. 2016. Web. 14 Dec. 2016.
End the Fed To Really ‘Make America Great Again’
Federal Reserve-generated increases in money supply cause economic inequality. This is because, when the Fed acts to increase the money supply, well-to-do investors and other crony capitalists are the first recipients of the new money. These economic elites enjoy an increase in purchasing power before the Fed’s inflationary policies lead to mass price increases. This gives them a boost in their standard of living. By the time the increased money supply trickles down to middle- and working-class Americans, the economy is already beset by inflation. So most average Americans see their standard of living decline as a result of Fed-engendered money supply increases.
Some Fed defenders claim that inflation doesn’t negatively affect anyone’s standard of living because price increases are matched by wage increases. This claim ignores the fact that the effects of the Fed’s actions depend on how individuals react to the Fed’s actions.
Historically, an increase in money supply does not just cause a general rise in prices. It also causes money to flow into specific sectors, creating a bubble that provides investors and workers in those areas a (temporary) increase in their incomes. Meanwhile, workers and investors in sectors not affected by the Fed-generated boom will still see a decline in their purchasing power and thus their standard of living.
Adoption of a “rules-based” monetary policy will not eliminate the problem of Fed-created bubbles, booms, and busts, since Congress cannot set a rule dictating how individuals react to Fed policies. The only way to eliminate the boom-and-bust cycle is to remove the Fed’s power to increase the money supply and manipulate interest rates. Because the Fed’s actions distort the view of economic conditions among investors, businesses, and workers, the booms created by the Fed are unsustainable. Eventually reality sets in, the bubble bursts, and the economy falls into recession.
When the crash occurs the best thing for Congress and the Fed to do is allow the recession to run its course. Recessions are the economy’s way of cleaning out the Fed-created distortions. Of course, Congress and the Fed refuse to do that. Instead, they begin the whole business cycle over again with another round of money creation, increased stimulus spending, and corporate bailouts.
Some progressive economists acknowledge how the Fed causes economic inequality and harms average Americans. These progressives support perpetual low interest rates and money creation. These so-called working class champions ignore how the very act of money creation causes economic inequality. Longer periods of easy money also mean longer, and more painful, recessions.
President-elect Donald Trump has acknowledged that, while his business benefits from lower interest rates, the Fed’s policies hurt most Americans. During the campaign, Mr. Trump also promised to make audit the fed part of his first 100 days agenda. Unfortunately, since the election, President-elect Trump has not made any statements regarding monetary policy or the audit the fed legislation. Those of us who understand that changing monetary policy is the key to making America great again must redouble our efforts to convince Congress and the new president to audit, then end, the Federal Reserve.
- Inflation harms our economy and only benefits those of the social elite class
- The Fed seems as if it does not do much to actually help the vast majority of the public. If you don't have a large, disposable income, inflation will cause the price of normal goods to rise and then the standard of living will decrease.
- The lack of recession within the economy harms more than helps. It cause the Fed to spend money to bail out all of the banks.
I do think the average American would be able to understand this article
This article uses many economic terms, but its all common such as "interest rates" that are not hard to understand outside of an economic class, or when the reader is lacking economic knowledge.
Levy, Mickey D. "End the Fed To Really ‘Make America Great Again’." Tenth Amendment Center. N.p., 28 Nov. 2016. Web. 14 Dec. 2016.
Monetary Policy for Dummies
- What is Monetary Policy?
- How This Applies To Everyday Life
What Is Monetary Policy?
Monetary Policy is the process by which the authority of a country controls the supply of money, often targeting an inflation rate or interest rate to ensure price stability and trust in the money and banks.
Inflation: sustained increase in the general level of prices, which is equivalent to a decline in the value or purchasing power of money.
Fiscal Policy: the means by which a government adjusts its spending levels and tax rates to monitor and influence a nation's economy. It is the sister strategy to monetary policy
How Monetary Policy Affects Everyday Life
What the Fed does matters to the people and their ability to maintain employment and buy goods and services. When the financial system becomes out of whack, the effects are felt immediately by all consumers and the Fed’s job of ensuring that all is working within a controlled balance becomes paramount to maintaining a efficient economy.