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OPEC Stands Pat, the Fed May Raise

By Benjamin Shepherd on June 3, 2016

During what some thought might be a contentious meeting this week, the Organization of the Petroleum Exporting Countries (OPEC) decided to keep its “hands-off” policy. And that might give our Federal Reserve a hand in raising interest rates more quickly this year.

With oil prices up nearly 80% from the 13-year low they hit this winter, keeping the status quo didn’t seem like such a bad idea for OPEC members, who need the money. OPEC leader Saudi Arabia posted a record $98 billion budget deficit last year and is still looking at a deficit this year despite serious austerity efforts, so any move to push prices down would have been a case of cutting off their nose to spite their face. And prices are likely to rise further as production fell another 32,000 barrels a day here in the U.S. last week, and several large-production countries still aren’t producing.

Even at $50 a barrel, the current price, most oil-producing countries in the Middle East will run out of cash in five years or less, according to a report last year from the International Monetary Fund. And Saudi Arabia is on that list.

Rising oil prices matter to us because the Fed seems to be in an increasingly hawkish mood and a lack of inflation has been a constraining factor in raising interest rates. Inflation has been running well below the Fed’s 2% target, but with oil prices rising that might not remain the case much longer.

I don’t think the Fed will hike in June. That’s thanks to the upcoming “Brexit” referendum in the U.K., which has the potential to roil the financial markets in the European Union, waves from which would pound shores around the globe. The markets seem to agree with that thinking, with the CME FedWatch projecting just a 6% chance of a hike at the next meeting.

But a July hike certainly isn’t off the table and an increase between now and November is a virtual certainty.

If you think back to the middle of last year, when everyone was certain a Hikeapalooza would be the Fed’s 2016 theme, dividend stocks nosedived. High yielders were particularly hard hit, with some losing as much as 20% of their value between May and August. That decline turned when it was obvious that the Fed couldn’t possible hike four times in a year, but the specter of rising rates made many people nervous.

I don’t think the reaction to the next hike will be nearly as dramatic, especially since rates are more likely to rise gradually rather than just skyrocket. While rising oil prices will give inflation a shot in the arm, there’s still a lot of uncertainty about the global economy generally so I think the Fed will be cautious.

But it does mean we’ll have to pay close attention to the valuation of the stocks we buy for our Personal Finance portfolios, especially dividend payers, so we’ll have some cushion against the dip they’re likely to take.

 


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