The Federal Reserve raised short-term interest rates 1/4-point to the range of 1 1/2 to 1 3/4, which should pull money market fund rates, which have already risen steadily, higher in coming weeks. The Fed's release says, "Information received since the Federal Open Market Committee met in January indicates that the labor market has continued to strengthen and that economic activity has been rising at a moderate rate. Job gains have been strong in recent months, and the unemployment rate has stayed low.... On a 12-month basis, both overall inflation and inflation for items other than food and energy have continued to run below 2 percent." We review the Fed's statement below, and also quote from a new UBS piece on tax reform. (Note: We'd also like to welcome those of you who made it out to Los Angeles for our 2nd annual Bond Fund Symposium, which takes place today and tomorrow at the LA InterContinental Downtown.)
The FOMC statement continues, "Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The economic outlook has strengthened in recent months. The Committee expects that, with further gradual adjustments in the stance of monetary policy, economic activity will expand at a moderate pace in the medium term and labor market conditions will remain strong. Inflation on a 12-month basis is expected to move up in coming months and to stabilize around the Committee's 2 percent objective over the medium term. Near-term risks to the economic outlook appear roughly balanced, but the Committee is monitoring inflation developments closely."
They explain, "In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 1-1/2 to 1-3/4 percent. The stance of monetary policy remains accommodative, thereby supporting strong labor market conditions and a sustained return to 2 percent inflation."
The Fed adds, "In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation.... The Committee will carefully monitor actual and expected inflation developments relative to its symmetric inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant further gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data."
In other news, UBS Asset Management writes in its latest "Liquidity Perspectives 1Q18" about "US tax reform: What corporate treasurers need to know." They tell us, "The tax reform bill signed into law late last year was the most extensive overhaul of the US tax code in more than 30 years, making significant changes to both individual and corporate tax rates. But now that tax reform is here, corporate treasurers are sifting through the law to determine its effect."
UBS explains, "In this year's inaugural piece, we examine how these reforms may trigger a strategic shift in how treasurers manage their balance sheets, with differing consequences depending on a company's industry, sources of revenue and corporate development strategy.... In the broadest sense, corporate tax reforms encompass three main components. The first component constitutes a paradigm shift, with a move from a global taxation system to a territorial system, where companies will be subject to US taxes only on profits they generate domestically (in the United States). The second important component lowers the statutory corporate tax rate from 35% to 21%."
They tell us, "A third component, however, will provide an important boost to companies that currently have untaxed profits held offshore. Prior to tax reform, foreign subsidiaries of US headquartered companies did not pay US taxes on earnings from abroad until that money was returned home (repatriated), at which point they were subject to the same tax rate as their domestic counterparts. At 35%, the US corporate tax rate was among the highest in the world.... As a result, total overseas earnings for all US multinationals swelled and were recently estimated at $2.6 trillion. However, a provision in the new tax code will allow companies with cash trapped overseas to pay a one-time mandatory tax of 8% for illiquid assets (such as factories and equipment) and 15.5% for cash and cash equivalents when repatriating the cash. Corporations can opt to pay the tax in installments over an eight-year period."
UBS states, "A well-designed cash management strategy supports a company's objectives and should be flexible to meet key strategic imperatives. The following table examines how these imperatives may be impacted by tax reforms, and how cash management strategies could adapt. One broader concern to the global treasury community is the market repercussions that tax reforms may have in 2018. Most cash balances that are subject to repatriation are primarily USD-denominated and held in US Treasuries and corporate bonds. Shifting these assets onshore to fund shareholder programs could increase the supply of available securities in a year when the US Treasury is expected to significantly raise bill issuance to meet rising deficits."
They write, "Both of these factors may put an upward pressure on yields, further accelerating the process of raising interest rates already put in motion by the Federal Reserve. However, given that not all corporations will repatriate at once, nor will they all immediately shift into shorter-dated vehicles, we believe that repatriation is unlikely to cause a supply shock. In any case, the pace of shifting from onshore to offshore should be monitored as the year unfolds."
UBS adds, "Another interesting dynamic to monitor closely in 2018 concerns the offshore money market fund complex, as US tax reforms may present both opportunities and challenges for these important cash-management vehicles. Companies may consider a higher allocation to offshore money market funds as they slowly unwind longer-dated strategies while maintaining significant balances overseas. Rising short-term rates may further bolster the case for holding balances in these shorter-dated vehicles. However, the challenge remains that some assets, albeit small, may shift to the US, which poses another interesting dynamic to monitor closely, especially in a year in which European funds are preparing to implement new reforms."
Finally, the update concludes, "US tax reform presents corporate treasurers with cash-management challenges and opportunities. While clearly US multinational corporations will be the most immediately affected by the reforms, global treasury community will surely feel some of the repercussions. Cash managers worldwide will find it more important than ever to monitor developing dynamics and prepare for their outcomes."
