The market isn’t hearing the Fed’s increasingly hawkish message, according to researchers at the Federal Reserve Bank of San Francisco. The take away? The authors reiterate Chairwoman Yellen’s words from earlier this year “. . .investors may underappreciate the potential for losses and volatility going forward.”

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Federal Reserve officials have very nearly written our letter for us this quarter. Earlier this year we worried economic data were increasingly at odds with the Fed’s policy stance, a conflict that would eventually result in a sharp change in tone from the central bank.

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A new interest rate cycle is upon us. The Fed has said – and the market is largely in agreement - that within a year short-term interest rates are likely to rise. We have already spent considerable effort purging interest rate risk from portfolios.

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One perplexed Fed watcher recently observed that “Fed policy. . .is maddeningly disconnected from their [sic] forecasts.” After all, how can the Fed legitimately be concerned about unemployment and low inflation while simultaneously winding down bond purchases?

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We have expressed concern for some time that markets have been too sanguine about the eventual ‘lift off’ from zero rates, ignoring a recurring Fed narrative that has attempted to guide toward an earlier exit should economic progress (as narrowly defined by the unemployment rate and inflation) justify it.

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