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Week Ahead: It's (Still) All About the Fed


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There are plenty of things that the stock market could be focused on this week, good and bad. On the bad side, the two most pressing are geopolitical concerns. The trade war with China continues and is heating up elsewhere, with India imposing retaliatory tariffs on a range of American goods, and there looks to be an increasing chance of a real war with Iran.

On the good side, unemployment is still near record lows, GDP growth remains above three percent, and inflation remains low.

Despite all this, or maybe because of its contradictory nature, stocks finished last week virtually unchanged. There is more of the same this morning, where futures indicated another sleepy day ahead.

Traders are in waiting mode and it is, it seems, all about the Fed, who will meet this week.

That should come as no surprise to regular readers. I have made the point here many times over the last few years that the long-term driver of stocks is their value relative to bonds and other investments, and low rates enhance that relative value. There is an enormous amount of capital in the world, and a good portion of that is allocated to U.S. assets.

When Treasury and bond yields are low, more money flows into stocks. There may be questions about the economic future, but such questions always exist, and funds with a long-term outlook make decisions based on long-term average returns, not short-term risks.

The obvious question then, is what to expect from this week’s meeting, but that is not an easy one to answer.

Until quite recently, it would have been. After a period under Greenspan when surprising the market was common, the Bernanke and Yellen eras moved away from that. Traders and investors have become used to members of the Fed board signaling their intentions openly in interviews and speeches, with the meeting basically rubber-stamping those stated plans. Jay Powell has tried to continue that, but political interference has made predicting the Fed’s actions a lot more difficult now than it was a couple of years ago.

If the Fed were, to use a favorite phrase of Janet Yellen, completely “data dependent” in their decision making, a pretty good guess at what would come this month would be possible. The U.S. economy is still strong, but there are signs that the rate of growth is slowing. That suggests that the FOMC has it about right with rates at these levels but could be expected to make it known that even with inflation low, a cut could be on the cards if that slowing were to continue or quicken.

That still looks like the best guess as to the outcome this week, but the frequent demands from the White House for a rate cut now throws a wrench in the works. It has increased the pressure for a rapid move, but at the same time, made that less likely. Powell may be a Trump appointee, but it is already clear that he is his own man.

The uncertainty comes from whether he feels the need to prove that again or will simply ignore the comments from elsewhere. In that light, anything other than an immediate rate cut will be seen by the market as a man sending a message rather than a response to conditions and data.

That makes future decisions less easy to read.

Not cutting now but leaving the path open to doing so soon is what the numbers and available information would suggest is the best thing to do and is therefore still the most likely outcome of the meeting. What is in doubt is how the market will react if that is the case. Will the refusal to cut now be seen as an act of defiance that may be repeated, or will the promise of a future cut along with the Fed’s assessment that things aren’t bad enough to warrant one now be seen as a positive?

The most likely answer is both. Initially, disappointment from those who have convinced themselves that a cut is coming would almost certainly cause a selloff, but a recovery would ensue once calmer heads assessed the message sent. If such a drop is the most likely scenario, buying going in makes little sense for traders. However, there is still a risk of an actual cut that sends stocks sharply higher, and there is no way of knowing how rapidly the bounce would come, so selling short in front of the decision doesn’t look too smart a play either.

What the Fed decides and indicates about the near future this week will almost certainly set the direction of the next big move in stocks, but the uncertainty regarding what that will be make a quiet run up to Wednesday’s announcement and press conference very likely. Stay patient.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.





This article appears in: News Headlines , Central Bank , Stocks , US Markets



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