No Easy Money, No Easy Gains

No Easy Money, No Easy Gains

You’d be forgiven for not knowing it, but the US Federal Reserve just concluded a two-day meeting overnight and…kept rates on hold.

This meeting was a non-event in the eyes of the market. No one seriously thought the Fed was ever going to raise interest rates one week out from a presidential election.

But, of course, the Fed isn’t political. As Larry Summers (who missed out on the Fed chief job to Yellen) said on CNBC last month:

“The Fed is completely honest [and] totally trying to do the right thing,” Summers said on “Squawk Box.” “Any suggestion that they’re behaving politically of the kind we’ve seen in the campaign, I think, is ludicrous.”

I don’t know why they even bothered to have a meeting this week. Even if they did raise rates, they would be accused of trying to influence the election. But as I’ve pointed out previously, a November rate rise was never going to happen.

It would’ve played into Trump’s hands. And Trump has said he thinks the Fed is incompetent, and that he believes Yellen’s job is on the line. I think you can work out why the Fed didn’t act.

But a rate rise for December remains firmly on the cards. This is from the Fed’s statement overnight:

Against this backdrop, the Committee decided to maintain the target range for the federal funds rate at 1/4 to 1/2 percent. The Committee judges that the case for an increase in the federal funds rate has continued to strengthen but decided, for the time being, to wait for some further evidence of continued progress toward its objectives.

December is on…unless there is some major weakness in the economic data over the next couple of weeks.

Which is looking unlikely. Recent data shows that the US economy expanded at a decent clip in the third quarter. Annualised growth came in at 2.9%, which was the best quarterly growth rate in two years.

However, a closer look at the numbers shows that a surge in soybean exports to China boosted exports, while there was a build-up in private inventories. Both of these factors provided a temporary boost to economic activity, so the number wasn’t as strong as it looked on the surface.

But still, the Fed has prepared the market for a rate rise. It’s something they’ve been trying to do for some time. So they’ll move in December, unless there is a shock from somewhere.

Incidentally, Jim Rickards told attendees at The Great Repression conference that New York Fed boss Bill Dudley told him at a private dinner that the Fed would raise rates in December.

This is how the process of jawboning works. Various Fed officials talk publicly and privately to set market expectations. That’s been the Fed’s role over the past few months. The expectations of a December rate hike are now high enough that it will no longer be a surprise when they announce it.

This is the Fed’s objective. They want the market to position for a change in policy ahead of the announcement. When the announcement actually comes, and the market takes it in its stride, it helps with the propaganda that the US economy is strong and resilient and…blah blah blah.

But at that moment, everyone seems to forget that it’s taken the Fed exactly 12 months to move rates a measly 25 basis points higher!

That should remind you that the US economy is anything but resilient. It’s loaded with debt, and very sensitive to moves in interest rates.

In fact, the major US indices look very fragile indeed. Check out the Dow Jones index in the chart below:


Source: Optuma
[Click to enlarge]

Overnight, it closed below 18,000 points, which is an important support level (marked by the horizontal green line). It increases the odds that you’re going to see further downside in the coming weeks.

The S&P 500 has also broken support, which adds to the bearish picture for US stocks.

The Aussie market looks even worse. It’s fallen considerably over the past few months. I think that’s mostly to do with the fact that the market sees the interest rate cutting cycle as done for now.

The Aussie economy is even more highly leveraged than the US. It’s very sensitive to moves in interest rates. And while rates haven’t actually moved since August, at the time, the expectation was for rates to fall further.

But, over the past few months, that expectation has changed. That’s why you’ve seen government bond yields rise sharply and interest rate-sensitive stocks sell off.

A good benchmark for this dynamic is the Vanguard Australian Property Securities Index ETF [ASX:VAP]. As you can see in the chart below, the index peaked just before the last interest rate cut in August. The selloff since has been savage. This is the ‘yield play’ coming out of prices.


Source: Optuma
[Click to enlarge]

The selloff in Aussie stocks has been broad-based, too. I run a scan each day monitoring the number of stocks making multi-month highs or lows. Yesterday saw just five stocks making new (roughly) two-month highs, while 68 stocks fell to new two-monthly lows.

That suggests we could be in for a short-term bounce soon, as the market works off its oversold condition and ‘bargain hunters’ come in and buy.

But the tone of the market has clearly changed. With the Fed set to raise rates next month, and the RBA on hold for the time being, the lure of easy money is gone.

Stock markets are likely to do it tough for the time being.

Cheers,

Greg Canavan,
For Markets and Money

Greg Canavan

Greg Canavan is a Contributing Editor at Markets & Money and Head of Research at Port Phillip Publishing.

He advocates a counter-intuitive investment philosophy based on the old adage that ‘ignorance is bliss’.

Greg says that investing in the ‘Information Age’ means you now have all the information you need. But is it really useful? Much of it is noise, and serves to confuse rather than inform investors.

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