Dammit Janet, the market needs more Fed straight talk.
The markets want some straight answers
Either the market or Janet Yellen has it wrong on interest rates.
Of course, it’s never a good idea to fight the U.S. Federal Reserve, but investors can’t be blamed for looking past the central bank chair’s opinions based on her comments this week.
Yellen, in a speech at the University of Massachusetts at Amherst on Thursday, reiterated that the Fed was ready to raise interest rates this year, and international and financial considerations won’t stop it.
But those issues — notably, the sharp equity market correction and further signs of trouble in emerging markets — are exactly what the Federal Open Market Committee highlighted on Sept. 17 in keeping the U.S. benchmark policy rate near zero.
U.S. policy-makers seem to fear that weakness abroad will wash up on U.S. shores — at least, that was the popular reading of the FOMC’s statement.
The current market estimate implies the Fed will move twice between now and December 2016, with the odds of a hike this December hovering just below 50 per cent.
Yellen’s comments served to ease concerns that the Fed had completely abandoned the idea of a move in 2015, although she really didn’t say anything new.
But her attempt to reset expectations appears to be nothing more than a concession to the market, which CMC Markets strategist Michael Hewson thinks is behaving like “a petulant child that constantly needs parental reassurance.”
That might be why Yellen played down the risks associated with a slowdown in China, again representing a sharp contrast to the FOMC’s recent statement.
She also left plenty of wiggle room in case things don’t turn out as expected. Yes, policy decisions are data dependent, Janet, we get it.
Investors really should be looking at the same data rather than paying so much attention to Fed speeches and comments, especially since they clearly don’t know what to think.
Following the Fed’s announcement last week, stocks made a sharp move higher, and then lower. The S&P 500 then fell in four of the next five trading sessions, only to rebound at the end of this week after Yellen’s speech.
The Fed chair also continues to make the case that inflation effects are both short-term and transitory. Yet the weakness in commodities has been putting downward pressure on prices for more than three years.
As Hewson put it, “that’s not transitory, that’s a trend.”
He noted that if the Fed raises rates in the next few months, it will be doing so with inflation expectations at a six-year low, and the U.S. dollar ranking as the second-bestperforming currency in 2015 behind only the Swiss franc.
That the Fed didn’t hike, how- ever, further highlighted that the central bank may have missed the best window to do so earlier this year when the U.S. dollar was lower and had a less disruptive impact on global currency and trade markets. The global economy was also on more solid footing back then than it is now.
The U.S. manufacturing sector is perhaps the most obvious part of the economy currently showing signs of stress, with the Empire, Philadelphia, Richmond and Kansas City Fed manufacturing indexes all posting negative readings.
But most indicators, including employment, point to an ongoing improvement in economic activity, which supports the notion that the Fed is simply not courageous enough to hike, even though it has plenty of reason to do so.
It is married to the markets, whether we like it or not. Although that’s not supposed to be a part of the Fed’s mandate, until its communications strategy improves, investors are left wondering what really matters to policy-makers.
As it turns out, Yellen may not be as dovish as some of her Fed colleagues — at least not this week. She clarified that she is among the vast majority of FOMC members who think a rate hike will be warranted before the end of the year.
The Fed chair doesn’t usually address financial stability very often, but she did on Thursday. Yellen stated that “continuing to hold shortterm interest rates near zero well after real activity has returned to normal and headwinds have faded could encourage excessive leverage and other forms of inappropriate risk-taking that might undermine financial stability.”
Since she rarely uses such language, the market can fairly interpret it as a lean toward the rate-hike side of the debate.
“Overall, the speech is a tad more hawkish than markets seemed to interpret the Fed statement,” said Avery Shenfeld, chief economist at CIBC World Markets.
Yellen also said that despite Fed expectations for an initial increase in the Fed funds rate later this year, things might change if economic surprises emerge. In other words: It might hike, or it might not.
This further fuels doubts about the credibility of the central bank and its eager-to-comment voting members, and for good reason. Dissenting positions are inevitable, but central bankers seem to forget how much extra weight their words carry these days when policy rates are stuck at record lows in much of the world.
Market watchers won’t stop looking for clues about policy in every bit of Fedspeak, but investors would be wise to focus on the central bank’s actions, or lack thereof.