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Yesterday, the FOMC statement dropped the phrase from the January statement: "the extent and timing of any additional firming that may be needed..." While many people interpreted this as a shift towards a Neutral Bias, it was more of a half step. Call it "pre-shift language."

As we noted, this change reflects an acknowledgment that the economy is slowing and inflation remains elevated. Looking at the past few months' data, it is fairly obvious as to why they made the change: The economy is visibly cooling. We have seen an increased risk of a sharp economic slowdown, if not a hard landing. As Federal Express (NYSE:FDX) made clear, peak cycle earnings are now at risk as activity slows. At the same time, inflation has not moderated.

There are only two reasons for the FOMC to shift to neutral and prep for rate cuts - one good, one bad. Yesterday was the bad reason.

It's not that the Fed is suddenly less hawkish because inflation threats have suddenly disappeared. Indeed, the Fed specifically noted that "Recent readings on core inflation have been somewhat elevated." In other words, this shift in posture (if not quite bias) was not motivated by the vanquishing of inflation, it was due to threat of recession.

Traders rallied the market on the news. They tend to shoot first and ask questions later. I suspect the subtleties of whether this was a good or a bad reason for a future rate cut may have been lost on them. We don't like to argue with traders, as their attention spans are notoriously short (I say that as someone who began his Wall Street career on a trading desk).

Traders have a tendency to create self-fulfilling prophesies. Yesterday's balance of volume was 90/10, meaning the up/down volume was 9 to 1 to the positive side. This was the 2nd such 90/10 day this month. The last time we saw two 90/10 days within a month was back in June of 2006. Buyers then were amply rewarded, as markets tagged on about 20%.

However, there is a significant difference between then and now - The February 27 whackage was a 90/10 DOWN day. That makes the parallel to June 2006 less than perfect.

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For more on the significance on 90/10 days, see our two part discussion with Lowry's Paul Desmond for details.

UPDATE:

Mark Hulbert goes over the bullish implications of a 90/10 day here: Nine to one.

In addition to pointing out the significance of having two 90/10 days in close proximity, he also mentions a notable failure: March 16, 2000.

This second 9-to-1 up day adds greatly to the bullish significance of the first, according to Zweig. That's because a single 9-to-1 up day, by itself, has not always been a bullish event. Perhaps its biggest false signal came on March 16, 2000, at more or less the exact top of the market before the Internet bubble burst.

According to Martin Zweig, the originator of the 90/10 day analysis, a "9-to-1 down day in the proximity of two 9-to-1 up days implies 'not as much [upward] thrust' as do two 9-to-1 up days that are unaccompanied by a 9-to-1 down day."

As we noted above, that is the primary difference between this set of 90/10 days and the ones experienced in June . . .

Source:
Nine to one: A rare and bullish technical event occurred Wednesday
Mark Hulbert
MarketWatch, 5:43 PM ET Mar 21, 2007
http://tinyurl.com/2rp4oz

Source: Not All Fed Rate Cuts Are Created Equal