I won't spend much time trying to dissect Bernanke Day in this week's column, as there are sure to be many, many words written on the subject elsewhere (if you want to see a good old-fashioned meltdown, check out Rick Santelli's tantrum on CNBC). As one of Seeking Alpha's Market Currents writers aptly put it, "the more Bernanke talked, the more stocks fell."
Stocks rallied into the Fed meeting because everyone knows that stocks rally into a Fed meeting. The sell-off afterwards was due in part to people exiting the trade after Bernanke tried to thread the needle, as I suggested he might, by saying that if the economy improved, the central bank would prepare to exit its bond-buying program, while if it didn't, the bank would not.
That's really the gist of it, though what mattered most to the tape was the chairman talking of a possible end-date in the middle of next year, instead of leaving it to some nebulous future. Bonds and equities alike sold off in a continuation of the move from last month when Bernanke first raised the subject that begins with "T."
Don't be surprised to see the market try to rebound over the next two days, despite futures being in the red as I write this. One very large reason for this is the options position in the SPYder ETF (SPY) - there are a huge number of puts below 165 set to expire, so any positive news is likely to be used as buying pivots to push those puts back out of the money.
That buying support will end at 4 PM Friday, though, so the question is where the market goes next, and I suspect more volatility. One problem with the Fed statement was that it lowered the upper bound of its GDP forecast for 2013, but raised it slightly for 2014 and 2015. I happen not to agree with the latter, but what bothers the market is not the Fed's lousy record of prognostication, but the fact that its improved outlook worsens the outlook for quantitative easing (QE).
You can expect the debate about QE to get louder and the center of the argument possibly shifting - or at least attempting a shift - from a monomaniacal focus on whether or not QE, to whether or not growth is indeed picking up. Some pundits have been quick to weigh in with the defense that the Fed's position is actually an endorsement of the economy and should therefore be treated as further motivation for buying equities. Of course, if the data is weak over the next few months and the Fed announces in September that it will extend QE-3 some more, that too, will be treated as further motivation for buying equities.
I don't see the growth that Bernanke seems to see, at least not in business spending or employment or retail spending. Take a look at this chart of the year-on-year trend in annual retail sales - it looks like my charts on business investment spending.
The data above are in nominal terms. As we approach 1.5% annual change in real terms - and May was at 3.8% nominal - the economy is more susceptible to contraction.
Chairman Ben seems to be placing considerable faith, at least outwardly, in housing as the key to the recovery. I don't doubt that housing is recovering but I don't think it's going parabolic, either, and I suspect that the current 28% year-on-year growth rate in homebuilding is set to slow next year.
One imagines that the formula is for slowly improving employment to add extra octane to a secular recovery in the sector, but it isn't clear to me that the employment rate is going to hit Fed targets. We are, after all, four years into a recovery cycle and much of the other consumption, investment and government spending data suggest an economy that is flattening out. The dollar amount of the sequester is larger than the dollar amount of additional housing expenditure, even with a generous multiplier.
I do read lots of projections on how spending is going to pick up once we get past the sequester and cycle the effects of the payroll tax cut. But the full effects of the sequester have not yet been felt and the payroll tax increase isn't being offset by money from somewhere else. Whether you are positive on employment or not, disposable personal income has been going nowhere, with wages not much better. Against that is the proposition that steadily improving employment means more income and rising house prices will mean more confident consumers and it will all work out. Maybe.
If Bernanke and the FOMC are right, growth in the economy will simply displace the need for bond buying, allowing the Fed to stop expanding its balance sheet as growth returns, which seems correct on the surface. Though we may argue about underlying growth, there are few advocates for an even bigger Fed balance sheet. However, autos and housing have been heavily dependent on credit flowing, and bond market turmoil may have a disruptive effect.
However it sorts out, the key to the short term is that the driving narrative of easy money has been impaired, at least temporarily. It may not be permanent, and the narrative may in time successfully hand off to growth, but for the moment the market has no leader. We're still in the month of June, always a volatile one that often takes a last deep knee-bend in the second half. A heavy calendar next week brings reports on durable goods spending, personal income, new home sales and home prices, and I suspect that the markets will jump around quite a bit on the news. Apart from darting in and out with day trades, it's a good time for sitting out the transition. Don't go out on the roof in a storm.