2 o’clock and all’s well!

Posted on: by .

Today is a holding pattern as we wait for the Fed. The market had a strong sell-off recently, the Fed paraded out their Doves with hints of prolonging ZIRP and even QE, the market rallied. Yet, I am not sure if the market is fully convinced that the Fed will remain Dovish and that has lead to more volatility.

2 o’clock and all’s well!

The FOMC statement will be released at 2pm ET and I suspect we will receive a “2 o’clock and all’s well!” There is no scheduled economic update or press conference, so that means the only item for review will be the FOMC statement.

Courtesy of wikipedia

Two mandates and two concerns:

Unemployment: The Fed since the start of the crisis and through the last FOMC statement has consistently reiterated their concerns about the unemployment and “slack” labor market. They have even dropped all together setting monetary policy (interest rate changes) to a U3 unemployment target rate, now at 5.9%. It is certainly interesting that on one hand the “official” unemployment rate seems to reflect a strong employment recovery, yet on the other hand the Federal Reserve continues to voice their concerns about the labor market and unemployment and has dropped using it as a target rate. Clearly one doesn’t agree with the other, so who is right? Regardless, the last FOMC statement coupled with some speeches by Fed officials have recently voiced concerns about the strong dollar and how it may impact employment, based on a slowdown in exports.

Expectations, the FOMC statement will continue to report concerns about the labor market. They may allude to the strong dollar and weaker exports possibly bringing more slack.

Inflation: The Fed has targeted 2% (possibly 2.5%), by setting rates to zero inflation should rise or so the theory goes. Yet, based on the CPI (the “official” inflation rate), inflation is actually declining (known as “disinflation”). This is the exact opposite result the Fed expects from their current ZIRP policy and now the dollar has rallied. A large part of this disinflation and dollar strength has come from the BOJ and ECB further monetary easing policies. The minutes from the last FOMC reflect concern about exports and a declining GDP based on the strong dollar, clearly the talk in the room was leaning towards more ZIRP and possibly extending or launching new QE type policies.

Expectations: There is a possibility that they will not taper and continue QE3 or they will imply that even if they wind down QE3 that more accommodation could be warranted. Additionally, concern about the strong dollar, weaker exports, will imply that interest rate hikes are not coming soon. ZIRP is here to stay, longer than we think.

Write a book?

I have covered this upcoming FOMC meeting exhaustively as it is a pivotal meeting for several reasons.First it is the meeting that marks the wind-down of QE3 and supposedly the beginning to a Hawkish Fed (possible announcement of future rate hikes), that has been the expectations at least. Second, it comes right before the mid-term election, which is important as it could change the make-up of the Senate.

Courtesy of wikipedia

I have covered a lot of factors as each is a cog in the wheel as we head into this meeting and it is important to understand the economic factors at play:

ZIRP policy and the velocity of money

The Fed’s Dual Mandate, policies, and mid-terms

The make-up of the Fed and why it is Dovish

Fed hinting at more Dovish policies going forward

Dollar Strength and the impact to companies (like Ford)

Dollar and Oil prices and how it impacts consumers.

Keynesian theories based on a 1930s economy

Fed Interventionism and the Western Central Banks

What to expect in the FOMC statement and reading the Tea Leaves

I guess in some respects the last few Market Previews could be turned into chapters in a book. The point to the thorough coverage is to understand how integral Fed monetary policy is to the market, economics and even politics. The bond market is fixed and we don’t expect that to change, the Fed hopes to create a modest amount of inflation and continue to drive up asset values. Their hope is that the trade gap narrows, exports increase, jobs are created, money flows, jobs are created, and consumption roars back to life. Yet for all their efforts they are actually seeing the opposite occur with the recent strong dollar rally.

No one will notice?

The mainstream media will not take too much notice of the FOMC statement (they are focused on the mid-terms), Yellen is not planning on speaking, and even CNBC and Bloomberg may not cover it as closely – other than the fact that QE3 is supposed to end. The Fed certainly doesn’t want a spotlight cast on itself especially when they are supposedly winding down QE just days ahead of the mid-term elections. Yet, this could very well be one of the more important FOMC statements, just like the ones right before and after QE1, QE2, Operation Twist, and QE3.

The tone, message, and implications needs to be Dovish to give the market rally any legs, but it can’t be a full admission that more is needed because QE3 wasn’t enough. It is a careful balance between giving a broad optimistic feeling about economic conditions with the need for more zero interest rates and possibly more accommodation.

I would further argue that if the mid-terms were not days away they Fed may have taken an even more Dovish position, but in doing so it would certainly drive oil prices higher and the dollar down sharply. That wouldn’t be helpful days ahead of the mid-term, as it could impact gas prices (sending them higher) and bring down confidence as prices rise.

The perfect FOMC statement…

The perfect message would keep oil in the low 80s and slowly weaken the dollar, while buoying the equity and bond market, slightly pushing down yields. This would continue to boost consumer (voter) optimism, while also curbing volatility in the equity market and allowing it rally. However, crafting such FOMC statement is certainly difficult because the media, economists, and pundits (including myself) will possibly read too much into it.

Actions speak louder than words; unfortunately today all we will have is words.

Support & Resistance

INDU 17,000
We got to 17,000 the area right before we cracked and heading lower. Today we could see 17,200 is the FOMC is considered Dovish or 16,800 if it is interpreted as Hawkish.

NDX 4,100
The highly volatile tech sector is either going to rally strong to possibly 4,200 on a Dovish Fed or back down to 4,000 on a Hawkish Fed.

SPX 2,000
The S&P 500 will either rocket to 2,020 level or back down to the 1960 area, depending on the tone of the Fed. The VIX will fall to 12 or rocket to 18 in conjunction with the Fed meeting.

RUT 1160
I would be looking at 1180 on a rally or 1130 area on any Hawkish concern.

2 o’clock and all’s well!

The Fed would rather not have any volatility in the market, they would like to release a calm and quiet statement, keeping oil low and capping the dollar rally – without injecting any volatility into the equity market.

If the Fed message is vague, with no real Dovish undertones – we could see the market sell-off as if it was Hawkish. The market likes certainty and that is what we hope comes from the FOMC statement.

I suspect we will get a 2 o’clock and all’s well! with a Dovish FOMC statement, with hints of possible further accommodation and that ZIRP is here to stay for the foreseeable future.

4 Responses to “2 o’clock and all’s well!”

  1. CommodityGril says:

    With the Fed’s monthly reinvestments at around 16 billion, this whole end of QE is a bit disingenuous.

  2. warren says:

    I found the statement surprisingly “hawkish.” Do you think that energy prices and their relation to US foreign policy has any effect on Fed decisions?