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Prime Rate

also known as the Fed, National, U.S. and WSJ Prime Rate

Friday, November 17, 2006

Probability of A Rate Cut for The March 21, 2007 FOMC Monetary Policy Meeting Rises to 40% On Housing Starts Report

It was just yesterday that odds on a rate cut for the March 21, 2007 Federal Open Market Committee (FOMC) monetary policy meeting dropped as low as 6% on encouraging news about inflation. But today, the probability that the Fed will reduce the benchmark Fed Funds Target Rate by 25 basis points in March jumped back up to 40%. Why the significant shift today? Well, if you are guessing that it has something to do with the slumping housing market, then your guess is right on target.

Earlier this morning, the Commerce Department released their report on New Residential Construction (a.k.a. Housing Starts) in October, 2006:

  • The initial estimate of privately-owned housing starts last month: 1,486,000; this is 14.6% lower than the revised estimate from September, 2006. Economists were expecting 1,675,000.

  • The initial estimate of single-family housing starts last month: 1,177,000; this is 15.9% lower than the revised estimate from September, 2006.

The housing market continues to slide, and the Fed is certainly paying close attention to it.

Speaking in Delaware yesterday, Eighth District Federal Reserve Bank President William Poole said that Fed officials are paying "special attention" to housing, and that he's concerned about all the home-purchase cancellations going on.

Bottom line: if the Fed decides to lower interest rates some time next year, the housing market is likely to be a significant, contributing factor behind that decision.

For some perspective on how influential the housing market is on the U.S. economy, consider this: the waning housing market reduced the U.S. Gross Domestic Product (GDP) figure by 1.1 percentage points last quarter.

The Latest Odds

As of right now, the folks who trade in Fed Funds Futures have odds at around 40% (according to current pricing on contracts) that the FOMC will elect to lower the benchmark Fed Funds Target Rate by 25 basis points at the March 21ST, 2007 monetary policy meeting.

Summary of the Latest Prime Rate Predictions:

  • In all likelihood, the Prime Rate will remain at the current 8.25% after the December 12TH and January 31ST FOMC monetary policy meetings.

  • Current odds that the Prime Rate will be cut to
    8.00% on March 21ST, 2007: 40% (somewhat unlikely)

  • NB: Prime Rate = (The Fed Funds Target Rate + 3)

The odds related to Fed Funds Futures contracts -- widely accepted as the best predictor of where the FOMC will take the benchmark Fed Funds Target Rate -- are continually changing, so stay tuned for the latest odds. Odds may experience a significant shift on the release of the following economic reports:

  • Tuesday, November 28, 2006: The National Association of Realtors releases the Existing Home Sales report for October.

  • Wednesday, November 29, 2006: The Commerce Department releases both the preliminary Gross Domestic Product (GDP) report for Q3, 2006, and the New Home Sales report for October.

  • Friday, December 8, 2006: The Labor Department releases the Employment Situation report for November.



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