THE FED REFUSES TO FOLD HIS HAND / SEEKING ALPHA

The Fed Refuses To Fold Its Hand

by: Lawrence Fuller

Summary

 

- The Fed struck a modestly more dovish tone in its statement today, but continues to suggest that the US economy is strengthening.

- The stock market is calling the Fed's bluff, demanding more certainty on future interest rate increases.

- The chances of an interest rate increase in March now appear to be off the table.

- I continue to think the S&P 500 will rebound to overhead resistance levels in the coming days before falling to new lows in the months ahead.

 

There were no expectations that the Fed would raise interest rates today. The focus was on the language used in the statement that followed its meeting for clues about the possibility of additional interest-rate increases in 2016. Cascading oil prices, a plunge in the stock market and more intensified concerns about China's slowing rate of economic growth have led to hopes that the Fed would ease off the brake pedal of monetary policy normalization.

 

These and other foreboding developments, some new and others old, run completely counter to the optimistic outlook for the US economy that Janet Yellen expressed last month during her post-meeting press conference when she suggested that the US economy would continue to strengthen.

 

I have voiced my view that the Fed raised rates last month in order to rubber-stamp the recovery. It wanted to mark a definitive moment in time for historians to look back on as the moment when its policies were finally deemed a success. Perhaps Fed officials felt the need to stake that imaginary claim, fearing that the economy and markets were in the process of rolling over, after which they would have lost their chance.

 

I think Yellen had one additional objective in advocating the idea that the US economy is strengthening. She was trying to influence investor sentiment, and to a lesser extent, consumer confidence, in hopes that investors and consumers would buy into the idea that the crisis-level monetary stimulus of the past seven years was no longer needed. In other words, she wanted investors and consumers to invest and consume as though the US economy is strengthening.

 

That would be a self-fulfilling prophecy.

If she had been playing poker at last month's press conference, she would have been putting all of her chips on the table, while holding nothing more than a pair of deuces. It was a very big bluff. Investors obviously didn't buy into that bluff, or the stock market, as the S&P 500 (NYSEARCA:SPY) has declined as much as 11% since the beginning of the year. The jury is still out as to whether or not the rate of consumer spending growth will accelerate or not, but the year-over-year rate of growth in personal consumption expenditures continues to decline, so that doesn't look good either.

 

The S&P 500 index declined by more than 1.5% during the hour that followed the release of today's statement, whining like a spoiled child that didn't get what he wanted. The stock market is calling Janet's bluff. It appears that Yellen is trying to pull a few chips off the table, reducing the size of her wager, while still refusing to fold what is a losing hand.

 

In what was a modestly more dovish tone, the Fed quietly downgraded its assessment of the economy by removing the reference from its previous statement that the risks to the economic outlook were balanced. It stated that it is "closely monitoring global economic and financial developments and is assessing their implications for the labor market and inflation." In other words, we don't think it is likely that there will be a rate hike in March. The stock market obviously wanted a more forthcoming acknowledgement of the deteriorating circumstances we have seen since the Fed's last meeting. It also wanted an emphatic "no" on a March rate hike.

 

Yet the Fed wants to save face after having been so optimistic just a few weeks ago.

 

I suspect that Fed officials will be deployed in the coming days to emphasize the more dovish aspects of the statement. It certainly didn't want to see the type of stock market response we saw today.

 

I continue to believe that we will see a short-lived rally up to overhead resistance levels for the S&P 500 index in the days and weeks ahead, before eventually moving to new lows in the months thereafter.