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Periodically, the Open Market Committee of the Federal Reserve meets to determine, amongst other things, the direction of interest rates. One such meeting concluded this past Wednesday and from it, according to their press release, came some very interesting observations.
The release notes that “conditions in financial markets have improved further” since they last met during August and “activity in the housing sector has increased. Household spending seems to be stabilizing, but remains constrained by ongoing job losses, sluggish income growth, lower housing wealth and tight credit.” The key word within this portion of the policy statement and the main reason for the recent run-up in the stock market is “stabilizing.” Think back to one year ago when first Lehman Brothers fell to be followed shortly thereafter by the collapse of American International Group (AIG), investors of all kind were in a state of panic as there was apparently no safe haven. Even the most conservative investors, those that invested in banks, were worried. The belief was that the United States was headed into a depression. Fast forward ahead to early March 2009 when, in hindsight the stock market bottomed. It did so amidst a sea of discouraging economic news as well as a preponderance of consumer and investor pessimism. Therefore, stabilization, although perhaps not adequate enough now to move the stock market higher, is a step in the right direction.
The press release observes that although “businesses are still cutting back on fixed investment and staffing, though at a slower pace; they continue to make progress in bringing inventory stocks into better alignment with sales.” In other words, the supply out there is somewhat in proportion to current demand. Furthermore, “the Committee anticipates that policy actions to stabilize financial markets and institutions, fiscal and monetary stimulus, and market forces will support a strengthening of economic growth and a gradual return to higher levels of resource utilization in a context of price stability.” There is that word again, “stabilize.” What we gather from this paragraph is that the Fed sees a stabilization of economic growth with little inflationary pressures, at least in the foreseeable future. In fact, the Fed goes on to state that “with substantial resource slack likely to continue to dampen cost pressures and with longer-term inflation expectations stable, the Committee expects that inflation will remain subdued for some time.”
Concerns of economists are now beginning to center around the question of “how do we exit this period of easy monetary policy and quantitative easing?” The Fed begins to address this issue. “In these circumstances, the Federal Reserve will continue to employ a wide range of tools to promote economic recovery and to preserve price stability. The Committee will maintain the target range for the federal funds rate at 0 to ¼ percent and continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.” However, “the committee will gradually slow the pace of these purchases (agency mortgage-backed securities and agency debt) in order to promote a smooth transition in markets and anticipates that they will be executed by the end of the first quarter of 2010.” The phrase “gradually slow the pace” is the equivalent of the Fed taking away the punch bowl, and to mix metaphors, eventually passing the lending baton to the private sector.
THE BOTTOM LINE comes with the assurance that “the Committee will continue to evaluate the timing and overall amounts of its purchases of securities in light of the evolving economic outlook and conditions in financial markets.” With this in mind, we believe that this accommodate policy by the Fed along with the Obama Administration makes for an attractive investing environment, one in where, we believe, that the risk is being out rather than in.