Tag Archives: Fed policy

Janet Yellen, this week and last

September 25, 2015 By in China, Current Market Thoughts, Portfolio management Tags: , , , , Leave a comment

Fridays are strange days on Wall Street.  That’s because, unless they’re super-confident, short-term traders don’t like to hold a large inventory of securities over a weekend.  Too much time for bad stuff to happen.  So they sell enthusiastically on Friday afternoons.

There’s certain sense to this behavior.  For them two days+ may be a long holding period.  Also, companies and people, particularly sneaky ones, like to save bad news up for late Friday afternoon or the weekend, when they think no one is paying attention.  This lessens the pain, they think.  Often, it has the opposite effect, however, since anyone who’s been around for a while knows what a late-Friday press release invariably contains.

 

So in one sense it’s not a great surprise that the huge effort–enough to send her staggering off the stage–Janet Yellen put out yesterday to explain that, yes, the US economy is in great shape and, yes, the Fed is going to take the first baby steps to get the country out of interest rate intensive care (IRIC (?)–although it may be too late for this acronym) before New Year’s eve had no lasting positive effect on stock prices today.

The reason is that, aside from robots designed to react to newsfeeds, everyone knew that already.  In fact, her announcement on Thursday the 15th that the Fed Funds rate would stay at zero for now wasn’t a shock, either.  Futures markets had been putting the odds of a rate hike in September at less than one in three.

Yet the stock market took something Ms. Yellen said last week the wrong way.  If it wasn’t the interest rate announcement, what was it?

Actually, I think there are two things, one said and one not.

The first, and more important, in my view, is the unspoken but strongly held belief by the nation’s finest economists that if we have to depend on the White House and Congress for economic support, we’re doomed.  That’s because monetary possibilities to plug up a hole in the bottom of the boat are all used up.  The federal arsenal now contains only fiscal policy—changes in government regulation of business, or in spending priorities or in taxes.  The Fed knows it isn’t going to get bailed out by Washington if it raises rates too soon–something that has gotten many nations into trouble in the past.  Therefore, it has to err on the side of caution, even if that’s unhealthy to do.

We all sot of know this, but it’s not a plus to be reminded that as a nation we’re stuck in at best second gear as long as Washington dysfunctions its way through life.

The second, the one said, is that developments in China have the potential to hurt US growth enough to tip us over the edge.  I don’t think the effect on the stock market is so much about the details.  It’s the headline that matters–that the US is no longer so large that we’re impervious to what may happen in any other single country.  It conjures up thoughts of the post-WWI, when the UK passed the mantle of world economic leadership to the US, except that we’re now in the role of the UK.

Again, everyone sort of knew this was happening.  But having it confirmed by our foremost economists is another thing.

To put this in stock market terms, I don’t think Ms. Yellen is calling into question the market’s ideas about current earnings as about the multiple those earnings are worth.

 

 

 

navigating the next twelve months (i)

June 8, 2015 By in Current Market Thoughts, Portfolio management, Recent Market Action, Strategy Tags: , , , , , , , , , 3 Comments

As I wrote on Friday, I think we’re at an inflection point in the US stock market.  It seems to me the market is now beginning to take seriously the idea that the Fed will soon be beginning to raise interest rates from the current near-zero.

In one sense, this is not Wall Street’s first rodeo.  There are plenty of times in the past when the Fed has been reversing emergency monetary accommodation applied during a recession.  The investment community has already sifted through them ad nauseam.

On the other hand, the extent and duration of the current monetary easing are both without precedent.  At the same time, the way the market factors new information into stock prices has changed considerably over the last decade.  The goals and risk preferences of the Baby Boom, the most powerful retail influence on stocks, have shifted as well, as that generation has aged.

Boomers are more interested in income than in capital gains.  Hedge fund managers and algorithm-fashioners seem to have very short time horizons–almost reacting to information as it hits the news media rather than anticipating it.  (I almost cringe to write this last.  It reads a lot like the criticisms made by elderly patrician money managers of the past (whom I made fun of at the time) who held stocks for decades at a time and were struggling to adjust to the faster-paced market of my early years on Wall Street.  Still, I think what I’m saying is correct.)

Therefore, I think, we can’t just blindly apply generalizations from the past to our present situations.

two types of tightening

It’s important from the outset to distinguish between two types of Fed tightening:

–restoration of the real rate of interest from negative to positive as the economy recovers from recession, and

–raising the real rate of interest substantially above inflation in order to slow down an economy that’s potentially overheating.

Today, we’re dealing with the first kind, not the second.

what the past tells us

During past periods of Fed tightening of the first type, stocks have been volatile but have generally gone sideways to up.  Bonds, on the other hand, go down.

This, in itself, has implications for stock market strategy.  Stocks that resemble bonds the most tend to do particularly badly; (at least some of) those that resemble bonds the least do the best.

More tomorrow.

 

 

Janet Yellen’s press conference yesterday

March 20, 2014 By in Current Market Thoughts, Recent Market Action Tags: , , , , , 2 Comments

Janet Yellen, new Chair of the Federal Reserve, held a press conference yesterday, following release of the agency’s policy-setting Open Market Committee.

The committee’s decision was the expected one–to continue its program of winding down over the next six months its program of buying boatloads of federal government bonds.

During the Q&A session, a reporter asked Ms. Yellen how soon after the bond purchases end in September it might be before the Fed begins to raise short-term interest rates in the US from their current ultra-emergency low of 0%.  Her answer:  assuming the economy continues to strengthen, six months or so.  In other words, about a year from now.

This reply sent the stock market, which had been within a stone’s throw of its all-time high, into a tailspin.

From the perspective of investors like you and me, the Yellen comment is not new news.  It’s pretty tame.  In the fast-twitch world of short-term traders, however, the stock market response is understandable.  The market was likely bouncing against the top of its near-term trading range, so down was the likely short-term direction no matter what the news.  Also, this is also the first occasion when the Fed has said when short-term rates might begin to rise.  It’s a few months earlier than the consensus had expected; more important, the timing has been made (more or less) concrete. And the actual shoe dropping–no matter how widely anticipated–almost always provokes a market reaction.

The more interesting issue, to my mind, is why Ms. Yellen said what she did.  I can think of three possibilities:

–Maybe she didn’t intend to specify timing and made a rookie mistake.

–More likely, in my view, the Fed may have made a far more decisive turn toward restoring money policy to normal than the Wall Street consensus has thought.  Yesterday would have presented a good occasion for starting to get this new information disseminated.  The fact that the stock market is at/near record territory suggests it is in a good position to absorb the news; one might even ask if the Fed is worried that too much money is chasing speculative stocks.  Maybe it wouldn’t mind if stocks went down a bit.

–It’s also possible, though I think much less likely, that the Fed has come to believe that its current easy money policy is having a negative effect on the economy.  Maybe it is coming to view itself as an enabler of Washington dysfunction, that the White House and Congress have the luxury of doing nothing because money policy is so loose.

 

After all, what do we really know about Janet Yellen.  Well, she has a grandmotherly appearance and a vaguely unpleasant speaking voice.  That may lead one to forget that she is a woman who has risen to the top of a profession dominated by men.  This means that behind her mild-mannered exterior, she has to be super-competent and very tough.

From an investor perspective, I think the takeaway from the press conference is that monetary policy normalization is no longer an amorphous thing somewhere out in the future, but is rather an important fact of life that must be factored into any investment decision.  We also have to begin to figure out whether or not a latter-day Margaret Thatcher is emerging as head of the Fed, and what this would mean for stocks.

today’s potential inflation threat

June 11, 2013 By in Constructing a Portfolio, Current Market Thoughts, economics, employment, Employment Situation report, inflation vs deflation, Recent Market Action, Strategy Tags: , , , , , , , , Leave a comment

Yesterday I wrote about inflation in general.  My two-post idea has morphed into three, though.  Today I’ll write about the current situation.  Tomorrow, I’ll write about what happened during the last bout of runaway inflation the US experienced, in the late 1970s.

why are the money taps wide open?

It’s partly because we’re wrapping up the fourth year of recovery from the economic lows of 2009 and still have about three million people (2% of the workforce) unemployed.  In those workers lives, today is a repeat of the depression of the 1930s.

As Fed Chairman Bernanke has been saying in testimony to Congress with increasing force, the Fed is not well-equipped to prevent them from becoming part of a European-style permanent underclass.  That’s a job for fiscal policy shaped by the administration and for Congress–stuff like reforming the tax code to stimulate new business formation, or infrastructure spending, or retraining.

But Washington has no interest, leaving the Fed money policy, which is legally obligated through its “dual mandate” to try to maintain full employment, as the only option.  (The Fed’s other mandate, by the way, is to try to create the highest sustainable–meaning non-inflationary–level of GDP growth.)

unemployment is a bigger economic threat than inflation,

in the Fed’s view.  Therefore it feels justified in maintaining its massive money stimulus.

can the situation change?

Inflation in a developed economy starts up when there are more job openings than there are people to fill them.  Companies then begin to headhunt workers away from rivals with large wage increases.  Fast-rising wage levels–together with newly-flush workers’ relative indifference to paying more for things–are what creates overall inflation to spring up.

monitoring the unemployment rate

One way of keeping an eye out for incipient inflationary impulses is to keep track of changes in working hours and wages.  The Bureau of Labor Statistics does this.  The Fed also uses the unemployment rate as its key leading indicator of wages.  The rationale is that it’s hard for a worker to ask for a big raise while there’s a long line of qualified unemployed eager to do the work for the current wage–or less.

one big assumption

Over the past few years there’s been a continuing debate among economists as to how much of the current unemployment is cyclical and how much is structural.

“Cyclical” means that the workers have skills employers want but business in general isn’t strong enough to justify adding staff.  “Structural” means that a potential worker is unemployed because he doesn’t have the skills employers want.  Maybe he can’t use a computer, for example.

The Bureau of Labor Statistics tries to help measure the difference between cyclical and structural through its JOLTS (Job Openings and Labor Turnover Survey) reports.  These show the number of job openings in the US that are currently unfilled.  A new JOLT report comes out at 10am Eastern time today.  The previous one, from May 24th, shows 3.5 million unfilled jobs in the US.  That’s about 10% below the pre-Great Recession highs.  It’s also 75% above the mid-2009 lows of 2.0 million.

to my mind, the JOLTS reports suggest at least part of the unemployment problem is structural–something loose money can’t do anything about.  But no one knows exactly how much this might be.

What if all the open jobs are from tech firms that want to hire college graduates with IT backgrounds, while the three million “extra” unemployed are all high school grads who used to work in construction and have limited computer literacy.  If that were true, we’re already at full employment.  Continuing Fed easing would already be in the process of igniting an inflationary upward wage spiral.

I’m not aware of anyone who is saying this is the case.  But how close are we?  No one really knows.

That’s the risk the Fed is taking–not because it wants to, but because it sees Washington as giving it no other choice.  It’s the reason the Fed is talking about taking its foot off the monetary gas pedal when the unemployment rate is at 6.5%, even though full employment more likely means 5.0%-5.5%.

It’s also the reason, I think, that the financial markets have decided all by themselves in recent weeks–as they typically have in the past–to start to do the Fed’s tightening work for it.

More tomorrow.