By ETF Heat Map Team
Select broad market exchange traded funds(ETFs) such as IWM, IVV and SPY traded slightly lower over the past few days as the International Monetary Fund (IMF) cut U.S. growth forecasts for 2016. Furthermore, the global markets continue to question the medium to long term effect of the U.S. Federal Reserve’s decision to not move forward with interest rate increases. Many market participants anxiously look forward to the U.S. labour market report to be released this Friday, and key decision makers look for guidance from members of the Federal Reserve regarding U.S. monetary policy. Many investors hate uncertainty which often drives market panic; however, during these challenging economic times this uncertainty has become the new normal .
Market sentiment got weaker upon IMF’s reduced American growth projection of 1.6 percent for 2016. The growth estimate for the UK dropped to 1.1 percent for 2017 after the Brexit vote. Peter Dattels, the Deputy Director of the IMF’s Monetary and Capital Markets Department, stated, “Medium-term risks are building because we are entering a new era, characterized by chronic weak growth, prolonged low interest rates, and growing political and policy uncertainty. This could undermine the health of financial institutions and add to the forces of economic and financial stagnation.”
Jeffrey Lacker, the Richmond Federal Reserve president, also stated that the federal funds rate should be about 1.5 percentage point higher than its current level. Mr. Lacker expressed his concerns about the very low rates by saying, “Pre-emptive increases in the federal funds rate are likely to play a critical role in maintaining the stability of inflation.” According to Mr. Lacker, rates need to increase significantly. He favors that rates need to be increased consistently and gradually, but not too gradually.
Another economist argued that we are already behind schedule in rate hikes and higher rates are imperative so that the Federal Reserve can continue to remain in control. The Federal Reserve would have very limited power, start to lose control, and be put in a very bad position if the U.S. economy were to slip into a recession. The Federal Reserve, which is maintaining historically low interest rates, would run out of ammunition in its arsenal and have no further rates to cut in the event of a recession.
Presidential candidate Donald Trump openly criticizes the Federal Reserve for being “politically motivated” and for not doing what’s best for the economy. Mr. Trump says the low interest environment helps President Obama and makes the Democratic presidential candidate Hillary Clinton look good. Paul Krugman would disagree with Mr. Trumps sentiments. However, Mr. Trump is not shy in expressing himself and said, “The only think that is strong is the artificial stock market. We have a very false economy. At some point rates are going to have to change.” Mr. Trump, who is sometimes a little rough around the edges, might have a valid point that investors need to consider as 2016 winds up.
The good thing about being positioned in ETFs versus a single stock or single financial instrument is that investors can diversify their risk using ETFs, be exposed to a broad range of securities and instruments. This diversification allows investors to participate in the market during volatile times while paying extremely low management fees. Specialized ETFs can be more profitable at times, but they can also be riskier and less profitable at other times. Investors must exercise good judgement when selecting ETFs for their portfolio, and consider all the underlying financial securities that make up that ETF.
Investors should continue to keep a close eye on the announcements made by the Federal Reserve’s members, and the IMF’s concern about slower growth.