Tuesday, September 30, 2014

Life After QE
Will there be life after QE? The Fed is scheduled to terminate this program at the end of October. There’s no doubt that investors are starting to fret about what comes after QE. They realize that once QE is terminated, all the focus will be on when the Fed will start raising interest rates. So recent comments on this subject by members of the “Federal Open Mouth Committee” seem to be having more impact on daily trading, contributing to the market’s volatility. Consider the following:

(1) Richard Fisher is a retiring hawk. Last Thursday’s 1.6% drop in the S&P 500 was widely attributed to FRB-Dallas President Richard Fisher's warning that interest rates may rise “sooner rather than later.” Of course, he is widely known as a hawk. In fact, he dissented at the last meeting of the FOMC according to the official statement: “President Fisher believed that the continued strengthening of the real economy, improved outlook for labor utilization and for general price stability, and continued signs of financial market excess, will likely warrant an earlier reduction in monetary accommodation than is suggested by the Committee's stated forward guidance.”

Fisher said the Fed might start raising rates around the spring of 2015. He won’t be a voting member of the FOMC next year. Actually, he recently announced that he plans to retire next year. In the past, his comments have never had much if any impact on the markets since the Fed’s hawks have been consistently outnumbered by the doves.

(2) Charles Evans is an influential dove. On the other hand, FRB-Chicago President Charles Evans yesterday told CNBC that he believes it would be "quite some time" before it's appropriate to start tightening. Evans is one of the Fed's dovish regional chiefs. While not a voting member on the central bank's policymaking committee this year, he's a 2014 alternate and will be voting next year. He has been an influential dove, convincing the FOMC to tie policy to the unemployment rate in late 2012.

Evans sees June as a possibility for the first rate increase, but said on CNBC’s Squawk Box that if it were his decision, he'd wait even longer. “If you look at the risks, we ought to balance those and be concerned that sometimes coming out of zero [rates] ... is really a difficult proposition for the economies. And so I'd like to be patient.”

(3) James Bullard is a bellwether. Last Tuesday, FRB-SL President James Bullard said that, at the next meeting of the FOMC on October 28-29 (after QE has been terminated), the Fed may need to drop its “considerable time” pledge for when interest rates will rise. He said, “I would like to get the committee to move to something that is more data dependent.” Bullard won’t have a vote on policy until 2016. Nevertheless, an article in Bloomberg recently described him “as a bellwether because his views have sometimes foreshadowed policy changes.”

(4) William Dudley is watching the dollar. Last Wednesday, Bloomberg’s Simon Kennedy reported:
As Federal Reserve Bank of New York president, [William] Dudley is the only regional Fed chief with a permanent vote on policy and is the central bank’s eyes and ears on Wall Street. So when Dudley says something new it’s worth tuning in. And this week he became the first Fed official to comment on the U.S. dollar since the Bloomberg Dollar Spot Index touched its highest level on a closing basis since June 2010.

“If the dollar were to strengthen a lot, it would have consequences for growth," the 61-year-old Dudley, a former Goldman Sachs Group Inc. economist, said at the Bloomberg Markets Most Influential Summit in New York. "We would have poorer trade performance, less exports, more imports,” he said. "And if the dollar were to appreciate a lot, it would tend to dampen inflation. So it would make it harder to achieve our two objectives. So obviously we would take that into account."
The JP Morgan trade-weighted dollar jumped 1% last week to the highest reading since June 7, 2010.

5) “Tightening tantrums” ahead. All this means that we can look forward to spending October wondering (as we did before the September 16-17 meeting of the FOMC) whether “considerable time” will be dropped from the next statement. It probably will be deleted from the Fed’s boilerplate message. In any event, we can expect more “tightening tantrums” ahead. The stock market may be just as freaked out as Evans is by the notion that the economy might go wobbly on the first rate hike.
(Based on an excerpt from YRI Morning Briefing)

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