Federal Reserve Watch: Stock Market Didn't Like Something

Summary

• After an initial rise, the stock market declined following the release of the actions of the Federal Reserve's meeting of the Federal Open Market Committee.
• Seems that what the Fed had to say contradicted some of the optimism of investors relative to the speed of the hoped-for economic recovery.
• Fed Chair Jerome Powell indicated that the Fed's policy rate of interest might not be raised for a long time, even years, because of the slowness of any economic rebound.

Right after the Federal Reserve released information about the meeting of the Federal Open Market Committee Meeting on Wednesday, the stock market rose.

The value of the US dollar in foreign exchange markets also strengthened.

This has been what these two markets have done over the past year or more. The information built into such moves was that the investment community liked what the Federal Reserve was doing and the actions of the Fed just confirmed the reason for their trust in Fed Chair Jerome Powell and his fellow voting members of the FOMC.

But, then something else happened.

The S&P 500 Sock Index, which had initially risen after the Fed’s announcement, fell and closed down 17 points for the day.

Furthermore, the value of the dollar turned around and closed weaker for the day.

What happened?

Two Things Stand Out

In my view, two things stand out in the Fed’s announcement and following press conference.

First, Mr. Powell stated in the press conference:

We’re not thinking about raising rates. We’re not even thinking about thinking about raising rates.”

The FOMC statement:

the Committee decided to maintain the target range for the federal funds rate at 0 to ¼ percent. The Committee expects to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.”

In terms of the Fed's projections, the median forecast for the Federal Funds rate is 0.1 percent for 2020, 2021, and 2022.

That is quite a long time!

The Second Thing

The second thing that stood out in the Fed’s presentations have to do with the response of the economy.

Projections for real GDP show that Fed officials believe that the range of outcomes in 2020 will be between a negative 4.2 percent and a negative 10.0 percent. In 2021, the range of outcomes are in between a negative 1.0 percent and a positive 7.0 percent. The median projections are for a fourth quarter over fourth quarter decline of 6.0 percent in 2020 before bouncing back to a positive 5.0 percent rate of increase in 2021.

The median unemployment rate comes in at 9.3 percent for 2020 and 6.5 percent in 2021.

Mr. Powell, however, issued a cautionary note to these unemployment projections saying that:

Even with the gain, there are still nearly 20 million fewer Americans employed than there were in February, and… it was possible millions of people wouldn’t go back to their old job or their prior industry, given the potential for reduced demand for goods or services that require increased human contact.”

He concluded that:

It could be some years before we get back to those people finding jobs.”

The Shape Of The Recovery

Once people had a chance to digest these bits of information, I think that they turned around and the stock market began to decline and the value of the dollar began to fall.

Why?

I think the reason for the market response was that Mr. Powell and the Fed were saying some things that conflicted with what market participants had previously believed.

I think what Mr. Powell and the Fed said was that the economic recovery is not going to take on a V-shape. The economic recovery is going to be so slow that the Fed is not projecting an increase in its target rate of interest for one, or two, or three years.

The S&P 500 opened Thursday morning down by almost 90 points.

The Nasdaq index, which had reached a new historical high yesterday, opened down by around 240 points.

I believe that expectations had been broken and market participants were responding to the reality that the economic recovery might not be so near by. Also, maybe the optimism coming out of the White House might be a little too optimistic.

The Problem Is That Nobody Knows

The United States, and the world, is in a situation that has never happened before.

Because of this, we must get used to the fact that we are in a situation of “radical uncertainty.” We don’t really know what all the possible outcomes might be. We must be very careful in drawing conclusions.

And, in such a situation, we are not even sure we can trust the data that we are receiving. We are observing this problem as we go along. Just look at the problems people are facing trying to make calculations about what the unemployment rate might be.

In situations like this, one could argue that the best strategy one could follow in almost anything is “err on the side of being too cautious.” The Federal Reserve is doing it, erring on the side of monetary ease.

We need to do it to err on the side of safety for us and for our assets.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.