Today's FOMC Meeting: Extended Life Support for Markets?

The policy-making arm of the Federal Reserve, the Federal Open Market Committee (FOMC), started its regular two-day meeting yesterday and will publish the minutes from the meeting today at 2:15 PM. Nobody is expecting any mention about increasing interest rates, since it is quite obvious that it is too early for that, given the weak state of the economy. The focus is going to be on any change in the language that will indicate whether the government will be withdrawing its support sooner or later.

"Sooner" would be bad for the market, leading to a stronger dollar and weaker stock market levels. The dollar would strengthen because support withdrawal means less printing of dollars, so lower supply of dollars in the market. The stronger dollar will hurt US exports, because they will become more expensive and their demand from abroad will thus decline. However, given continued increases in the unemployment rates and anemic credit demand, both of which indicate that the economy is anything but on a firm footing, it is more likely that the FOMC will not hint towards an end of the accommodative monetary policy.

In fact, there are rumors of a second stimulus plan that have been gaining credence the past few days. Such an announcement would send the dollar lower and equities higher, potentially triggering a short-term rally. If equities spike and investors become more confident that the government will keep the liquidity in the system -- which inflates asset prices all-around and makes it less risky to invest, at least in the short term -- investors that have been positioning their portfolios defensively on the off-chance that the FOMC will lay out a clearer plan of support withdrawal will have to rush back into the market.

After last week's mini-correction, the market has not been making any bets ahead of the FOMC announcement, which is why it fluctuates. The initial morning reaction -- lower dollar and higher futures -- is an early indication that investors are getting more bullish from current levels. Mutual funds closed out of a lot of positions the past week as their fiscal year ended, and the momentum caused many hedge funds to follow suit. This means that they are probably under-invested, so any positive news can have a large impact. The risk-reward seems to be more favorable to the upside. Ultimately though, the inflection point in the market will happen at 2:15 and no big bets will take place until then.

Comments

[Mad Hedge F...:]

xfu First of all, let me warn you that reading this paragraph is a complete waste of your time. Still interested? There is chatter about that the Fed is considering a surprise interest rate rise at its upcoming meeting. After all, where can they go from zero, but up? They could be emboldened by the recession ending Q3 GDP of 3.5%. The bond market is certainly telling us that rates should go higher, with yields on ten year Treasuries jumping from 2.45% to 3.40% since March. Unfortunately, this is the usual kind of gibberish you get from pundits and prognosticators , who, at a loss for any explanation of the real reasons for Friday’s melt down, resort to making stuff up out of thin air. US industrial capacity utilization is terrible, while unemployment is rising to record levels. Banks still aren’t lending to small businesses, the largest job creators in the country, because they are about to get hit with an onslaught of bad commercial real estate loans. Sure, commodity prices have doubled or tripled this year. But this happened because investors were desperate for any alternative to the sickly dollar, not because there is huge underlying demand by end users. This is one of the reasons why I have been ringing the alarm bell about all long positions for the last three weeks. So I can say with complete confidence that the chances of an interest rate hike are less than zero for the foreseeable future. This discussion did have the one benefit that it did enable me to fill this space in my newsletter.

Nov 04 01:15 PM

[TradingHelp...:]

The mess is deeper than the 8-month rally implied. Only yesterday here in the UK the government increased its economic interest in Royal Bank of Scotland to a potential 84%.

There is a consensus that the UK banks have so far only written down 40% of the losses they should have.

It's too early to cut rates in the UK or US, that's for sure.

tradinghelpdesk.ning.c...

Nov 04 01:42 PM

[Gary A:]

It is too early because people are still buying the Bernanke bonds. Having to choose between the Fed induced carry trade or the Fed induced bond purchases, the Fed will choose the latter when necessary. It is not yet necessary. But it is all a scam, and a ponzi. hubpages.com/hub/Proof...

Nov 04 02:06 PM

[enigmaman:]

For anyone to believe that BB will be able to get the timing right for when he will start to tighten is folly, he is damned if to early and damned if to late, DC politicians will ream him a new one no matter what he does and then the question when he starts raising rates how quickly/often does he move, AG lowered rates to slowly and then raised them to fast which had serious ramifications that he now says were inevitable, so why should we believe BB will get it right when it his turn, I expect the next leg down will start when BB starts, baring any unforeseen serious incidents

Nov 04 02:34 PM

[bottoms-up:]

So much of all of this is garbage statistics and newspeak.

For example, the headline coming across is: "Fed Retains Its Pledge to Keep Interest Rates Low for an `Extended Period'

Well, remember when the US$$$ was tanking and gold was shooting through the roof, Ben came out, on a Sunday for the business day in Asia, I might add, to hint the Fed will raise rates? Wasn't that about three weeks ago and he kicked the dollar back up and gold down.

Ben and Tim are con artists and lie through there teeth.

So, the result of this "good news" is that equities are higher... Of course it means the economy is no where in the shape the government of the other con artists say it is.

When the government bubble collapses, it's going to be a hard fall.

Nov 04 02:44 PM

[Mr. Big:]

The longer this transpires, the bigger the eventual correction. The words: "extended period" adds fuel to the fire for the dollar carry trades and the US dollar will just get hammered. It will get hammered to the point when investors just stop buying Treasuries at super low yields. Seriously, what's the point of buying into an asset class that pays nothing and just depreciates in value? I feel that we are edging very close to a breaking point. With no buyers, the Treasury bubble will soon burst. If the Fed announces they will expand the purchases of Treasuries, the USD will fall even more rapidly.

Whenever the correction happens, it will happen fast and furious. Rates will need to be raised very rapidly, the pace of which will cause the carry trades to unwind simultaneously and lead to a massive selloff in the markets as borrowers frantically cover their short-dollar positions.

None of us know exactly when this will happen, but most of us agree that it will happen and it's just a matter of time. And it's going to be ugly and may push the US economy into a.....

....well let's just say it's going to be ugly.

Nov 04 04:48 PM

[StockMaster...:]

I agree with Mr. Big... The phrase "extended period of time" was left in there which means the dollar short trade is still alive. Long live DEM VWO EEM in that case. I personally like DEM the most because you get high yield in non-dollars that translates to even more dollars as the dollar declines against these currencies.

Nov 04 04:54 PM

[Boxed Merlot:]

On Nov 04 04:48 PM Mr. Big wrote:

> ...what's the point of buying into an asset class
> that pays nothing and just depreciates in value?...

Seems you’re starting to think in Chinese.

Nov 05 02:19 AM

[Dirk McCoy:]

An upward rate adjustment of a point or so, with a "pledge" to keep future short term rates low for a long time, would have a few beneficial effects:

1. It wouldn't do much to raise actual bank lending rates since most of them are pegged much higher;
2. It would slow bank profits, which, given banks aren't making use of reserves to lend isn't so bad;
3. It would show the Fed isn't totally abdicating an anti-inflation stance;
4. It would be a reversal of the 2002-2006 debacle, where the Fed waited too long, and then started an inexorable march upward that eventually spooked anyone with an adjustable rate mortgage or line of credit (a big part of the economy);
5. It could creat a short term swirl of activity that would blow over, creating more long term confidence.

The worst thing the Fed could do is nothing for a year, and then jack rates back up to above 5% (assuming long term rates stay under 6).

And the worst thing our government could do is take advantage of low rates and debt monetization (to the extent there is any) by spending more of it on more "stimulus". Print more money, but use it to lower debt.

Nov 05 08:42 AM