Investors expect more of the same when the Federal Open Market Committee meets in mid-December and late January to determine the future course of U.S. interest rates. Still, they do not see the Federal Reserve or the level of interest rates as having a major effect on the economy. These investor perceptions represent a significant achievement for the Greenspan-led Fed, but also present a significant challenge for a Bernanke-led Fed in 2006.
Investors Endorse Bernanke
Investors endorsed the president's nomination of Ben Bernanke as the new Fed Chairman by nearly a 6-to-1 margin in the November UBS/Gallup Index of Investor Optimism poll*; 47% of investors rated the nomination as excellent or good, while only 8% rated it as poor.
Further Rate Increases Expected
Two in three investors expect the Fed to continue raising interest rates over the next three months. Only one in five investors expect rates to remain about where they are right now.
Rate Increases Will Affect Portfolios
Three in 10 investors say higher interest rates will be an extremely or very important influence on their personal portfolios. Another 44% say they will be moderately important. Slightly more than one in four (26%) say higher rates will be only a little important or not important at all to their personal portfolios.
Economic Influence
What affects the U.S. economy most? The poll asked investors to speculate. Only 1 in 10 investors say the Fed has the greatest effect on the U.S. economy. Instead, 37% point to government policies and another 33% indicate business and industry in the United States has the greatest effect. Only 16% of investors say the international economy has the greatest effect.
Are Investors Underestimating the Effect of Higher Interest Rates?
The relatively low level of interest rates and Fed Chairman Alan Greenspan's policy of "gradualism" seem to have mitigated investors' perceptions regarding the effect of rising interest rates. For example, just 16% of investors say the current level of interest rates is hurting the investment climate a lot; it ranks last on the list of 11 items tested during the most recent UBS/Gallup poll. On the other hand, the federal budget deficit ranks third, with 53% of investors saying it is hurting the U.S. investment climate a lot.
In a sense, this represents a significant accomplishment for Fed policy-makers. Ideally, Fed policy is essentially a neutral factor in the economy, allowing other factors to determine its relative strength or weakness. The relatively low level of concern about Fed policies suggests investors feel Greenspan has been successful in this regard and presents Bernanke with the considerable challenge of maintaining this positive perception.
It may be that investors are seriously underestimating the effect higher interest rates have on the economy. Low interest rates have been a significant stimulus in recent years. As interest rates have increased, so have the costs facing those consumers and businesses that have benefited from low rates. The effect rate increases have on the housing and auto sectors should not be underestimated. If the housing sector slows significantly in early 2006, this may become all too apparent to the nation's investors and consumers.
*Results for the Index of Investor Optimism poll are based on telephone interviews with 801 investors, aged 18 and older, conducted Nov. 1-20, 2005. For results based on the total sample of investors, one can say with 95% confidence that the margin of sampling error is ± 4 percentage points.
