Dow, oil head lower on eve of Fed meeting

New York stocks were dropping on Tuesday, a day before the U.S. Federal Reserve releases its latest take on the U.S. economy which could signal when it may have to hike interest rates.

The Toronto stock market moved into the positive column mid-afternoon Tuesday as oil prices declined modestly after a string of steep declines.

Oil was also falling because of a continuing glut of supply. The West Texas Intermediate crude contract, traded in New York, was down 74 cents to $43.14 US a barrel and Western Canada Select, a common Canadian contract, had slipped below $30 US to close at $29.71. That's the cheapest price we've seen for Canadian oil since February 2009, when the global economy was in the midst of a devastating recession.

The Dow Jones industrials fell 128 points to 17,849 and the S&P 500 lost seven points to 2074. The Nasdaq was up eight points at 4937.

In Mumbai, IMF head Christine Lagarde warned emerging economies about a potential hit when the Fed raises rates.

The risk for developing economies is that capital could move rapidly out of their markets to seek out higher U.S. rates and a strong U.S. dollar.

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“We are perhaps approaching the point where, for the first time since 2006, the United States will raise short term interest rates later this year,” Lagarde said. “Even if this process is well managed, the likely volatility in financial markets could give rise to potential stability risks.”

If Fed signals rate rise, watch the loonie

Signs that the Fed is prepared to raise rates, perhaps in June, could drag down the loonie, according to Rahim Madhavji, a foreign exchange analyst with Knightsbridge FX.

“A clear indication by the Fed that interest rate hikes are happening in June should boost the US dollar and hammer the Canadian dollar.  Dithering by the FED should be a positive for the loonie,” he wrote in a note to investors today.

The Bank of Canada cut its key interest rate in January in an effort to boost the economy in the face of low oil prices.

In North America, there is fear that stocks will be hurt because of decreased credit under higher rates.

Michael Gregory, deputy chief economist at BMO Capital Markets, says if the Fed drops the word "patient," it could actually mean better times ahead because a strong U.S. economy means more demand for Canadian goods.

"That the Fed believes that the U.S. economy can weather modest amounts of rate increases suggests momentum that is there, momentum that is going to help the Canadian economy, pull it along," he told CBC News.

If it fails to drop the word, that may mean the Fed is worried about the U.S. outlook.

"It would reflect the fact that there`s been other developments, particularly the strength of the U.S. dollar and it`s come to the point where it`s going to act as a little more of a headwind on the U.S. economy," Gregory said.

Toronto investors also absorbed news that manufacturing sales in Canada fell 1.7 per cent in January, due to a sharp drop in sales of petroleum and coal products.

Diverging scenarios for oil

The energy sector ended the day with a gain, but is down 12 per cent this month on the TSX.

Oil seemed to stabilize around the $50 point in February, half its value a year earlier. But news that storage tanks are filling up with oil, while North American producers have failed to cut production, is driving the price lower.

There are divergent views on where oil will go for the rest of the year – from as low as $20 to a bounce upwards if OPEC decides to cut production.