Wednesday, September 18, 2013

Markets soar after Federal Reserve decides to continue bond purchases

Dow jumped 147 to a new record, advancers ahead of decliners better than 5-1 & NAZ gained 37.  The MLP index jumped a very big 10 to 440 & the REIT index rose 8+ to the 278s.  Junk bond funds rose 1-3% & Treasuries also had a good day, taking the yield on the 10 year Treasury down an enormous 15 basis points to 2.71%.  Oil rose the most in 3 weeks after the Federal Reserve (FED) said it will maintain monthly bond purchases to stimulate economic growth.  Gold jumped 47, the most in 8 weeks, on the same announcement, increasing demand for the metal as a store of value.

AMJ (Alerian MLP Index tracking fund)

stock chart

Treasury yields:

U.S. 3-month


U.S. 2-year


U.S. 10-year


CLV13.NYM....Crude Oil Oct 13....107.55 Up ...2.13 

Live 24 hours gold chart [Kitco Inc.]

Bernanke Says Jobless Rate Above Acceptable Levels

Photo:    Bloomberg

The FOMC said it was unsatisfied with the pace of economic growth & felt the timing was not right to make a change in quantitative easing.  "The Committee remains concerned that, without sufficient policy accommodation, economic growth might not be strong enough to generate sustained improvement in labor market conditions," the statement said.  "Furthermore, strains in global financial markets continue to pose significant downside risks to the economic outlook.  Markets have been hotly anticipating the a new direction ever since the Open Markets Committee began dropping hints about the gradual decrease of monthly asset purchases.  The FED will continue buying $85B a month in Treasuries & mortgage-backed securities.  The hope is that the money makes its way back into the economy thru the purchase of risk assets like stocks & creates a wealth effect that leads to growth.  Success has been varied, with a huge boost to the stock market but only modest gains in the broader economy.  With the market anticipating a tapering, interest rates have been on a steady climb higher & stock market prices have continued to rise even in the face of a lower level of liquidity support.  The FED has insisted it will not begin raising the funds rate before the unemployment rate falls to 6.5% & inflation rises to 2.5%.  Unemployment is at 7.3% & inflation remains mired at 1.5%.

Most FED policy makers expect the first increase in their benchmark lending rate to occur in 2015.  The federal funds rate target is estimated to be 2% at the end of 2016.  That rate compares with an estimate of 4% for where the rate should be at a time of full employment & stable prices.  The outlook is part of the forecasts released after the FOMC concluded a 2-day meeting.  12 of 17 FOMC participants see the first rate rise occurring in 2015, & 2 see it happening in 2016.  3 participants predicted the first increase in 2014.  Today was the first time the FOMC released the 2016 outlook for the funds rate & economic indicators.  The FOMC estimated the economy would expand at a 2.5-3.3% rate in 2016, driving unemployment down to 5.4-5.9% with inflation at 1.7-2.0%.  The unemployment rate was in line with the official longer-run estimate for full employment of 5.2-5.8%.  Recent gov reports have highlighted uneven progress in the economic recovery, & policy makers today again lowered their estimates for expansion for this year & the next.  They forecast GDP to increase 2-2.3% this year, 2.9-3.1% in 2014, & 3-3.5% in 2015.  Recent declines in the unemployment rate have also caught the central bankers by surprise, with workers continuing to leave the labor force while job growth remains subdued.  Payrolls increased less than estimated in Aug & joblessness fell to 7.3%.


Photo:   Bloomberg

Big banks, facing a drop in Q3 trading revenue, are counting on the FOMC announcement to spark a surge in volume.  Banks have indicated to investors that trading revenue probably will be down from a year earlier.  Investors have been waiting to see whether the monthly bond purchases would be reduced.  Last year, traders speculated about whether the FED would increase the stimulus, which it did in Sep.  Today’s decision could boost trading as investors make adjustments to their portfolios.  The 9 largest global investment banks generated $32.4B from trading stocks, bonds, currencies & other products in Q2 (24% of total net revenue).  The firms produced $70.9B in H1, down 1.9% from H1 in 2012.  Analysts have been cutting Q3 earnings estimates for the big banks & as lenders have provided investors with warnings about trading.

Wall Street Banks Facing Third-Quarter Trading Hit Look to Fed for Relief

That's what happens when the FED surprises on the favorable side.  Cheap money will continue for some time & many in the stock market assume it will last forever.  The high yield sectors soared on the news.  At the same time stocks rallied, gold shot up & there was substantial demand for Treasuries (considered a safe have investment).  That's called a disconnect.  Syria was a non event, at least for the time being, & Big Ben extended his gift to investors.  Dow is up an eye popping 860 in Sep, what is statistically the worst month for stocks, & is slightly above the previous record in early Aug.  Enthusiasm may not last when DC comes on center stage.   

Dow Jones Industrials

stock chart

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