Markets Focus On Fed’s Rate Hike Decision

Another leg down in the oil market today is likely pointing towards a replay of what we saw in the stock market last week. The market has come around to accepting the long-awaited interest rate hike from the Fed, but part of the nervousness could very well be because of the Fed, howsoever well-choreographed it has been.

The market’s primary oil concern was that the commodity’s steep decline reflected a bigger-than-expected drop in demand as a result of decelerating global economic growth. Questions about China’s economic outlook and weakness in Brazil, Russia and many other emerging markets feed on these growth worries.

But that concern has lately been overtaken by developments in the high-yield (or junk) bond market, whose yield spread relative to investment-grade corporate bonds has started expanding. These widening yield spreads have stoked fears of a major credit market crisis along the lines of what we experienced as a result of the housing bust in 2008.

The credit market problem is real, but is most likely restricted to well-known cash-flow issues with borrowers in the energy and broader mining space. Recent dividend cuts from Kinder Morgan (KMI) and Freeport-McMoRan (FCX) as a way to conserve cash confirm the mining space’s problems. One could envision some adjacent industries that supply to the energy and mining spaces to be in a similar situation, but most of the other industries appear to have healthy balance sheets. Bottom line, worries about the junk bond market appear to be exaggerated and likely reflective to some extent of nervousness about the coming Fed move.

Let’s hope that Fed doesn’t get cold feet as a result of these developments and announces on Wednesday what everyone expects it to announce – a modest rate hike along with a clear reiteration of their previous position of being gradual and deliberate in normalizing policy.

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