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The Independent Adviser for Vanguard Investors
•
June 2016
•
15
FOR CUSTOMER SERVICE, PLEASE CALL
800-211-7641
in 2004. The stock market rose for years
before the credit crisis hit. By the end of
the Great Recession, the Fed had cut rates
down to the quick, where they’ve lingered
since. It is not a foregone conclusion that
small hikes in the fed funds rate will
cause the stock market to tumble.
Yes, there’s that old line so popular
on Wall Street that you shouldn’t “fight
the Fed.” But the Fed isn’t really put-
ting up much of a fight itself.
Investing entirely on any one fac-
tor—whether it’s the fed funds rate,
PE-ratios, GDP growth, unemploy-
ment, or, well, you name it—is not a
sound strategy.
I would take the weakness in the
markets, or sectors of the markets, as just
another long-term buying opportunity.
Health Care is still well off its highs. If
you don’t have a full position in the fund
(5% or so is good), I’d be a buyer. Don’t
own any funds run by the PRIMECAP
team, or only have a small position there?
Back up the truck and do some buying.
If you’re looking to make a quick hit,
I can’t be of help. I don’t know where
we go from here in the short term. But
longer term, worries about the Fed, about
whether higher rates help or hurt or any
of the other myriad concerns trotted out
daily by the media will be left in the dust
and this will look like just another time
when you could have bought lower while
others were worried about near-term
events outside of their control.
n
WILL JANET YELLEN
and her col-
leagues at the Federal Reserve raise the
fed funds rates on June 15?
If you’re an investor, rather than
a trader, it doesn’t really matter. A
fed funds rate of 0.50% (currently) or
0.75% or even 1.00% remains extreme-
ly low, allowing companies and con-
sumers to borrow cheaply and spend
freely. So rather than speculate whether
the Fed will raise rates or not, let’s talk
about how it impacts investors.
One place where a higher fed funds
rate would benefit investors is money
market funds. You don’t need me to
remind you, but for nearly two years,
money market yields were stuck at
0.01%. But starting in June 2015,
Prime
Money Market
’s yield finally moved
higher. As you can see in the chart below,
the yields on
Federal Money Market
and
Treasury Money Market
followed
suit over the next several months. At
May’s end, yields ranged from 0.26%,
to 0.45%, which, while nothing to get
excited about, is a whole lot better than
where they stood a year ago. And as the
fed funds rate moves higher (whenever
that is), I’d expect yields on money mar-
ket funds to increase as well.
I’m sure you noticed that money mar-
ket fund yields started to rise ahead of
the Fed’s first rate increase in December.
Do the recently falling yields on
Federal
Money Market
and
Treasury Money
Market
suggest that money fund inves-
Money Fund Yields
Up off the Bottom
Treasury Money Market
Federal Money Market
Prime Money Market
5/10
5/11
5/12
5/13
5/14
5/15
5/16
0.0%
0.1%
0.2%
0.3%
0.4%
0.5%
0
500
1,000
1,500
2,000
2,500
Stocks Impacted by Much
More Than Fed Funds Rate
S&P 500
Fed. Funds
5/88
5/92
5/96
5/00
5/04
5/08
5/12
5/16
Fed Funds Rate
S&P 500 Index
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
10%
INTEREST RATES
Will They or Won’t They?
tors doubt the Fed will act in June? No.
Those yields are in the hands of the mar-
kets for ultra-short commercial paper. I
wouldn’t worry over it.
Yields on Vanguard’s tax-exempt
money market funds have, as you might
have expected, lagged their taxable sib-
lings, but in mid-March, tax-sensitive
investors started to see some yield on their
money fund holdings. As yields on both
taxable and tax-exempt money funds are
now on the move, you need to once again
pay attention to tax-equivalent yields.
At first glance,
Tax-Exempt Money
Market
’s 0.30% yield looks paltry next
to Prime Money Market’s 0.45%. But
remember Tax-Exempt Money Market’s
income is sheltered from taxes, so that
0.30% tax-free yield, is equivalent to
a 0.46% taxable yield if you are in the
35% tax bracket. Calculations of tax-
equivalent yields can be found on page 9
of every monthly newsletter issue.
It’s pretty clear, then, that money
fund investors should welcome a higher
fed funds rate. But should stock inves-
tors be worried that the Fed is putting
on the brakes? Not yet.
Take a look at the chart to the right,
which plots the fed funds rate against the
S&P 500 index. Note that when the Fed
started raising rates in early 1994, this
didn’t prevent stocks from rising, nor did
cutting the fed funds rate in 2001 stem
the S&P’s decline. Also look at the steady
increase in the fed funds rate beginning
Tax-Exempt Money Fund
Yields Join the Climb
CA Tax-Exempt Money Market
NJ Tax-Exempt Money Market
NY Tax-Exempt Money Market
OH Tax-Exempt Money Market
PA Tax-Exempt Money Market
5/10
5/11
5/12
5/13
5/14
5/15
5/16
0.0%
0.1%
0.2%
0.3%
0.4%
0.5%