Simon Hobbs, co-anchor of CNBC’s “Squawk on the Street” went on to query his guest pundits last Friday, “Is it (the market) playing a game of chicken, going up in the face of a likely quarter point increase in the Fed Funds rate this June?” In an obvious attempt to accentuate the negative, Hobbs, the good CNBC soldier works hard in this question to stir up fear and uncertainty about a market that was up around 100 Dow points after another seesaw week (the S&P 500 closed out the week unchanged).
It was Fed-minutes week … the release of the minutes of the Fed policy setting meeting of April 26 and 27. As usual the media spent Monday, Tuesday and until 1 pm CST Wednesday obsessing about what those minutes would reveal. From 1 to 3 pm they had a parsing-fest on what those minutes meant. In the case of the April meeting it was pretty clear that if the economy continued on the road to improvement a quarter point point rate bump was on the table for June, and maybe one more before the end of the year. After the minutes were released the market went down 162 Dow points before rallying back and closing the day virtually unchanged. Thursday was a down day, but not by much considering Wednesday’s horrific comments out of the Fed (only about 90 points). Then, on Friday, it began to rally (up 126 points at one point during the first hour of trading). It was this trading action that sparked Hobbs’ interrogatory. In Hobbs’ mind (and in the minds of many of his cohorts) the market should be going down on this news (a tightening Fed pushing us into a sure recession). It was not. Ergo, the question, is the market daring the Fed to risk a June rate hike? My answer, it is not playing chicken; rather, the market is coming around to the assessment that interest rates coming from the low level they are currently residing at (and at a very slow pace) is simply not that big a deal. They would certainly signify an assessment by the Fed that the economy is strengthening. Yet people continue to obsess.
Facts about interest rates and the stock market over the past 53 years
The interest rate question has been a major concern of many market participants since we came off the low in 2009. Spencer Rand writing for U.S. News and World Report, asked the question three years ago just before another major market lift-off, “Will rising interest rates hurt the stock market?” He found some surprising research done by J.P. Morgan Asset Management.
“However, J.P. Morgan Asset Management looked at the relationship between the 10-year Treasury yield and the Standard & Poor’s 500 index over the past 50 years, and the results were not what I expected. Instead of seeing a negative relationship between the two, they actually found there was a fairly strong, positive relationship in certain situations.
When the 10-year Treasury yield was below 5 percent, rising interest rates were generally associated with rising stock prices. Why, you ask? If the economy has slowed down and the Federal Reserve is taking steps to try to revive it, they will lower interest rates for the reasons above. But once the Fed sees signs of a recovery, they will reverse their course and raise rates, which signals investors that the problems plaguing the economy are starting to ease. With interest rates as low as they are and the stock market as high as it is, it will be interesting to see if this relationship holds true moving forward.”
Today’s markets are driven in part by algorithmic, computerized trading and a media that does not care to dig very deep in its coverage.
As such, they are probably are not nearly as nuanced as the above explanation might require. They will probably get around to this some day (the need for human/thoughtful intervention in those models and by those pundits). But for now media minions like Hobbs and those who would trade on their guidance, or on their own simplistic trading rules, are simply left scratching their heads.
The great thing about all of this is that it creates opportunity for those who do do the work and think a little bit.
A final perspective
Three years ago (6/4/2013) the S&P 500 stood at 1631.32 and everyone was worried about what would happen when rates went up. By June 20, 2015 we had rallied almost straight up 31% (S&P 500 2134.72, a record closing high). They were worried about interest rates and the fact that during that two-year march we had not had as much as a 10% correction. Well, now we’ve had that correction in the broad market, with some individual issues getting hit even harder. We have also had our first rate increase (December 2015), sparking a ridiculous panic market decline into February of 2016. Interestingly, the effect of the short-term rate increase was to cause the yield on the 10-year US Treasury to decline from the 2.35% level in December to near 1.55% in February. Today it stands at 1.84%, up about ten basis points since Wednesday (hardly a panic out of Treasuries!). And, we are still worrying about interest rates going up.
My point is, we have had a significant price and time correction in stocks and long-term interest rates. Fed policy issues have been hashed and rehashed for years. In the case of rates going down instead of up, this is a big surprise (maybe even a white swan – not a bad omen) to most. My bet is that whatever happens on the interest rate front is already priced into the market. It is not a matter of equities “playing chicken” with the Fed, but Simon, the media and many investors not getting this changed dynamic. It is not a bluff. The Fed sees the economy getting stronger and the market may be telegraphing the same message. When Hobbs and crew finally come around to this message, the market will already be much higher.
What do you think?
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