The Markets:
Fed debate looms large
The clock is counting down to the September 18-19 Fed meeting. It’s no secret a debate is raging as to whether the Fed will start dialing back on its $85 billion in monthly bond buys. A consensus, however, seems to be emerging that is centering on either a ‘wait and see how the economic data plays out’ or ‘a small reduction in bond purchases.’ Whatever the Fed ultimately decides, the uncertainty has had a big impact on bonds, commodities, stocks, and assets in emerging markets.
We maintain our longer term outlook for interest rates to ease back off again in the coming months, and for a possible decline in the stock markets. Many of the indicators we follow are starting to point towards a topping process for stock prices overall. We remain underweight in stocks, and continue our positions in both fixed income and the “alternative” asset category and have seen a nice recovery in the precious metals sector since the end of last quarter. We will continue to monitor the overall markets and make adjustments moving forward as warranted.
Last week’s spotlight fell upon the annual Kansas City Fed symposium in Jackson Hole, WY and the midweek release of the Fed’s minutes from the last meeting. The symposium has typically been a ‘see and be seen’ conference that stars central bankers from both the U.S. and around the world. For example, the chairman of the Fed has been featured as a speaker going back to 1988 (CNBC). But Chairman Bernanke was noticeably absent this time around.
Much of the discussions centered on in-depth academic research surrounding monetary policy. Notably, Fed policy came under fire from a couple of groups who presented their findings in Jackson Hole. Robert Hall of Stanford University argued the Fed’s bond purchases, popularly called quantitative easing or QE for short, and the Fed’s promise to keep the target on the Fed funds rate at near zero for an extended period has been largely ineffective (Reuters).
Predictably, most Fed officials defended recent actions, but the debate is becoming increasingly important as central bankers consider modest changes to policy. So why should we be focused on what many might call an exercise in academic prowess? For starters, Fed policy has an enormous influence on stock prices and interest rates.
What has the Fed done? It has used both conventional and unconventional means to help stimulate the economy. Conventional – drive the fed funds rate, or the overnight rate banks lend to each other, to near zero (left axis on the graph). Since it’s bound by zero, the Fed has turned to unconventional measures:
1-Opting to load up on longer-term bonds, as it hopes to drive yields lower and stimulate spending. That has driven the size of its balance sheet from nearly $900 billion (right axis on the graph) prior to the financial crisis to $3.6 trillion. If/when the U.S economy kicks into a higher gear, ‘normalizing’ the balance sheet will likely become a much-more discussed topic.
2-Provide forward guidance; in this case, specific economic benchmarks that must be achieved before it considers boosting the fed funds rate.
Note: QE1, QE2, QE3 are the common terms given to the 3 separate rounds of longer-term Treasury bond & mortgage-backed security purchases. The Fed has financed these purchases via its ability to create cash.
Fed minutes
In the meantime, those looking for a taper roadmap in the minutes from the July 31 meeting were disappointed last Wednesday. Instead, we learned that a “few members” want to hold off as they evaluate the incoming economic data, while “a few others” thought it might soon be time to “slow somewhat the pace of purchases.” If anything, the minutes reflected a slight dovish tilt, as several Fed officials were a little less confident in their forecast of a near-term acceleration in the economy. Factors included the recent jump in mortgage rates.
Speaking of mortgage rates, existing home sales rose a solid 6.5% in July (National Association of Realtors), but new homes sales fell an unexpectedly sharp 13.4% in July, which comes on top of a steep downward revision to June’s data (U.S. Census). The current average 30 year fixed rate mortgage is around 4.55%, up slightly from 4.52% last week (Bankrate.com). This compares with the recent low of just under 3.4% back in the first week of May.
As we wind down our last official week of summer and head toward the Labor Day weekend, we hope all of you have had a great summer and are planning some family time this coming weekend to relax and enjoy the last long weekend of the summer months!
God Bless,
Your TEAM at F.I.G. Financial Advisory Services, Inc.
It is important that you do not use this e-mail to request or authorize the purchase or sale of any security or commodity, or to request any other transactions. Any such request, orders or instructions will not be accepted and will not be processed.
All items discussed in this report are for informational purposes only, are not advice of any kind, and are not intended as a solicitation to buy, hold, or sell any securities. Nothing contained herein constitutes tax, legal, insurance, or investment advice.
Stocks and bonds and commodities are not FDIC insured and can fall in value, and any investment information, securities and commodities mentioned in this report may not be suitable for everyone.
U.S. Treasury bonds and Treasury bills are guaranteed by the U.S. government and, if held to maturity, offer a fixed rate of return and guaranteed principal value. U.S. government bonds are issued and guaranteed as to the timely payment of principal and interest by the federal government. Treasury bills are certificates reflecting short-term (less than one year) obligations of the U.S. government.
Past performance is not a guarantee of future performance. Different investments involve different degrees of risk, and there can be no assurance that the future performance of any investment, security, commodity or investment strategy that is referenced will be profitable or be suitable for your portfolio. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation.
Before making any investments or making any type of investment decision, please consult with your financial advisor and determine how a security may fit into your investment portfolio, how a decision may affect your financial position and how it may impact your financial goals.
All opinions are subject to change without notice in response to changing market and/or economic conditions.