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  • When it comes to money, there's one group that's

  • more powerful than every trader on Wall Street.

  • That would be the government's bank, the

  • Federal Reserve.

  • People listen to the Fed and they respond to what

  • the Fed says about the future.

  • When you listen to the Fed, you get at least one

  • studied outlook about what the future's going

  • to look like.

  • The Fed's press conferences, held every

  • six weeks or so, tend to cause swings in the stock

  • market.

  • Over time, central banks have moved from being

  • very secretive about what they're doing to

  • being more transparent about their policy

  • decisions. And part of that transparency is

  • signaling where policy is likely to go in the

  • future.

  • The Federal Reserve has hiked interest rates

  • seven times in 2022.

  • That's a relatively rapid pace.

  • This and a historic drawdown in the bank's

  • bond portfolio is weighing on stocks across

  • the board.

  • But there's a lot of other forces that are

  • affecting the economy.

  • By the time they usually start trying to slow

  • things down, it's gotten to a pretty bad

  • situation.

  • So how does the government's bank use

  • words to control stock prices?

  • And how can investors take a sound bite and

  • turn it into profit?

  • Forward guidance refers to public comments made

  • by leaders of the central bank.

  • Let's talk about forward guidance in two different

  • ways. The first way the Fed does forward guidance

  • is actually a very overt way, which is it tells

  • you how they think the economy is going to

  • evolve. The other way the Fed does so is in

  • language which can be very subtle.

  • Some economic models say forward guidance is

  • incredibly powerful.

  • The idea was that by changing people's

  • expectations of the future, you can change

  • their behavior in the present to make the

  • present better.

  • Here's how it works.

  • A member of the voting committee makes a

  • statement. The statement contains a vague but

  • definitive description about a forthcoming

  • action.

  • We side by side compare the statements that it

  • released month over month highlighting the

  • differentiation. And like a word, literally,

  • people in finance get hung up on a word.

  • There is a little bit of tea leaf crystal ball

  • that certainly goes into parsing the Fed words.

  • Investors cracking the Fed code are listening

  • for key phrases like:

  • "softening of labor market conditions"

  • or

  • "we expect to maintain an accommodative stance of

  • monetary policy until these outcomes, including

  • maximum employment, are achieved."

  • If you noticed what Powell said during the

  • pandemic, we're not even thinking about raising

  • interest rates. That's forward guidance.

  • When the Fed says, "we're buying $120

  • billion in securities per month across the

  • Treasury curve, that's also adding to

  • accommodation" that's forward guidance.

  • It's a very powerful tool.

  • Some of the most potent Fed statements are about

  • the future path of short-term interest

  • rates.

  • The Fed sets the interest rate that it pays on

  • reserves held by banks, sort of the same way your

  • bank sets the rate it pays on deposits.

  • There's this connection between short-term

  • interest rates that are closely connected to

  • monetary policy and the interest rates on

  • mortgages, auto loans, things like this that

  • would be more relevant to household decisions.

  • The Fed sets a target for these interest rates

  • about eight times a year. Over the past 20

  • years, the target has stayed low, with extended

  • periods at zero, a historical anomaly.

  • Economists say that taking this interest rate

  • below zero is a bad idea.

  • You can't set an interest rate less than zero

  • because people would just store cash in their

  • mattress instead of investing it with you.

  • And all this was because they didn't see the

  • ability to add accommodation to the

  • economy.

  • So instead, the Fed tries to set expectations with

  • their words.

  • Everybody does their best to set expectations going

  • forward, depending on what this guidance is.

  • And like the eight words that they change monthly

  • is something like everybody drools over and

  • tries to get their crystal ball and say, Oh

  • my God, that's what they're really thinking.

  • We would think that maybe you could get a couple of

  • percentage points. So effectively having -2%

  • interest rates through these alternative tools.

  • That said, people at the central bank say many

  • outside forces affect prices in markets.

  • It's not the case that the Fed can perfectly

  • control how investors or markets will respond to

  • its statements.

  • As you saw in 2022, when expectations were behind

  • the curve and suddenly they had to change policy

  • very quickly and very rapidly, the markets did

  • not like that at all and sold off very hard

  • because then there was this disconnect.

  • Stock market investors haven't always gotten

  • such explicit guidance from central bankers.

  • As subtle as you think it is now, it was way more

  • subtle way back when.

  • First of all, there was no forward guidance.

  • They never even put out a statement until the

  • early nineties. When you go back to that time

  • period, this is actually overt and hitting you

  • over the head.

  • You go back to the seventies and the

  • eighties, the Fed didn't talk about its policy

  • publicly very much at all.

  • It would finish a meeting in which it

  • decided to change the stance of interest rates

  • and it wouldn't tell anyone until eight weeks

  • later.

  • Forward guidance became an official policy tool

  • in the 2000s.

  • I would say that's in part due to Chairman

  • Bernanke's leadership, but also in part due to

  • the exigencies of the situation, of the

  • episode that occurred under his watch.

  • As an unprecedented housing crash developed

  • into contagion on Wall Street, the Fed took

  • interest rates to zero.

  • There's this constraint of zero.

  • And so instead of going lower, the FOMC included

  • language in their policy statements that interest

  • rates would remain low for a considerable

  • period.

  • People generally think that this had a positive

  • effect on our economy during those tough years.

  • And when you're sitting there at the zero lower

  • bound without an ability to lower interest rates

  • any further, any port in a storm.

  • If this has some theoretical possibility

  • of working, great.

  • In addition to forward guidance, the Fed tried

  • another new technique.

  • Large scale asset purchases or LSAPs.

  • The asset purchases swelled in Ben Bernanke's

  • time and nearly reached $9 trillion in the

  • pandemic. Now the bank is letting some of those

  • bonds mature.

  • It's what they're doing with their balance sheet

  • really matters. And I don't think they're ever

  • going to get their balance sheet back to

  • where it was pre 2020.

  • Central bankers know this technique could have

  • drawbacks.

  • Including the risk of impairing the functioning

  • of securities markets and the extra

  • complexities for the Fed of operating with a much

  • larger balance sheet.

  • Though I see both of these issues as

  • manageable.

  • Probably the balance sheet has more of an

  • impact on stocks than even interest rates in

  • that the balance sheet purchases or quantitative

  • easing provides liquidity to markets that

  • finds its way into stocks and ends up

  • increasing values. And so reducing that balance

  • sheet, quantitative tightening, probably has

  • a bigger impact on the stock market as changing

  • interest rates.

  • Much of the modern economy depends on the

  • Fed's ability to control narratives.

  • Well, central bankers, they want to have

  • credibility. They want to be believed.

  • One way to do that is to say what you're going to

  • do and then do it.

  • Some central bank policy makers, though, worry

  • that doing that will tie their hands too much.

  • They'd like to have the flexibility to respond to

  • unforeseen circumstances.

  • The bank did use this technique before the

  • Great Recession, however .

  • For example, the Fed provided forward guidance

  • as stagflation took hold in the 1970s and early

  • eighties.

  • The Fed did learn lessons from the seventies not to

  • ignore inflation until it becomes too big of a

  • deal.

  • But a failure to restore price stability would

  • mean far greater pain.

  • Powell has been indicating more recently,

  • Hey, trying to wake the market up and say, Hey,

  • this is not something we want to reverse on, which

  • was a mistake in the seventies and eighties.

  • And he has referenced that multiple times.

  • Wall Street's current down cycle kicked off

  • with a rare admission at the Fed.

  • It waited too long to act on inflation.

  • I fear that they took a gamble that inflation

  • wasn't too real at the beginning of 2021.

  • I think they know they gambled and lost and that

  • they have to do something serious in

  • order to get inflation back under control.

  • Even when the Fed pivoted rhetorically, as in the

  • language we were talking about, when it comes to

  • forward guidance, which Powell did, I believe, on

  • November 29th or 30th of last year.

  • It didn't really pivot very quickly in policy.

  • Rates went up on talk, and that is the power of

  • forward guidance. So the Fed played a bunch of

  • catchup. And what it did was it raised rates as

  • aggressively as we've seen since the 1980s.

  • As a result, the market has trended downward for

  • months.

  • To put it simply, the higher interest rates,

  • the lower relative value stock prices have.

  • These companies that year over year were producing

  • 20% returns that people felt so comfortable with.

  • And then suddenly the giants of the investment

  • industry started to fall. You had Apple and

  • Amazon, stalwarts, making tons of money for

  • decades, suddenly down 40%, 50% on the year.

  • Tesla is down 50%.

  • Got some a little bit. Microsoft's held up a

  • little bit better. When rates are going up, we're

  • going to see some harder times, which then means

  • maybe stocks that aren't going to make as much

  • money.

  • Some speculators in the stock market hope that

  • the bank will pivot from that plan.

  • We do think the Fed is going to pivot harder

  • than they're saying right now.

  • The pivot has been redefined three times.

  • First, the pivot was one with the Fed pivot to

  • cutting rates. Then this pivot was defined as when

  • would the Fed pivot to pausing its rate hikes.

  • Now we have another definition of pivot out

  • there, which is when will the Fed pivot to

  • reducing its its rate hikes.

  • Chair Powell has talked about getting rates

  • higher and keeping them there longer, and yet the

  • market still seems to be holding out hope for a

  • pivot. And so I think t here is a disconnect.

  • It's been going on for some time.

  • Many Wall Street advisors have a suggestion" don't

  • fight the Fed.

  • The Fed has the thumb on the scale.

  • So if you have somebody that has a thumb on the

  • scale or has a decided advantage about what's

  • going to happen, whether we think good things or

  • bad things are going to happen, it's best not to

  • fight that policy. So when the Fed is evening

  • or the Fed is holding rates at zero, don't

  • fight it. Run. Take all the risk you can.

  • It's great. Now when the Fed is hiking and slowing

  • things down again, the reverse is don't fight

  • them. Things are going to get bad.

  • The challenge is interpreting what the

  • Fed's messages actually mean.

  • There are multiple possible interpretations

  • of the Fed's statement that it's going to keep

  • interest rates low for a long time, and in some

  • cases, people may also have uncertainty about

  • what the Fed's ultimate goals are.

  • That uncertainty came back a little bit in the

  • pandemic.

  • The change in market sentiment far outpaces

  • the change in the rhetoric that actually

  • comes to the Fed. The big risk is one where

  • market sentiment decides that they've heard

  • something different from the chair or from the

  • FOMC as a whole.

  • Economists now debate the effects of the forward

  • guidance technique.

  • The limits of forward guidance refers to what

  • we can and cannot accomplish by talking

  • about the future. Figuring out exactly what

  • the Fed's viewpoint is is not always easy.

  • To figure out what the Fed is thinking about the

  • economy, you've got to sort of read the tea

  • leaves. That's the dot plot.

  • Imagine you got up every morning and you could

  • predict how your day was going to go.

  • Well, because the Fed controls monetary policy,

  • it pretty much can predict outcomes, or at

  • least it feels it has the ability to do so.

  • At the Federal Open Market Committee meetings

  • in Washington, D.C., central bankers come

  • together to set interest rates and construct data

  • sets like this.

  • This chart is called the dot Plot.

  • It's published quarterly in the Fed Summary of

  • Economic Projections.

  • The dot plot is this really arcane way of

  • looking at Fed funds.

  • Literally every person on their board goes and

  • picks their dots.

  • The dot plot shows where each Open Market

  • Committee member thinks interest rates will be in

  • the future. In September of 2022, most committee

  • members saw interest rates rising in the

  • coming year. By December, most of the

  • committee saw rates staying higher for

  • longer.

  • History cautions strongly against prematurely

  • loosening policy.

  • Now, right now they're tightening.

  • So again, that's why we're not taking a lot of

  • risks. Don't fight them if they're trying to make

  • things harder in the world, like that's not

  • good for profits.

  • Following the Fed's guidance, Americans are

  • prepared to pay more for loans in the short term

  • while their assets stay priced relatively flat.

  • But ultimately, longer term interest rates are

  • going to do what they do based on the beliefs of

  • every participant in the market and how they

  • interact in a market setting.

  • I can look at what the Fed says and that might

  • affect my personal beliefs.

  • Ultimately, I have to take the rates that the

  • market gives me. So sure, don't fight the

  • Fed. But don't believe too much that the Fed is

  • all powerful.

  • I don't think folks at home should be trading on

  • the Fed. I think they should be trading for the

  • long term. And the long term is that the economy

  • grows and stocks go up and that's the way to

  • invest. But if you are going to put that into

  • your suite of information, there's a

  • lot of information there about where the Fed

  • thinks the economy is going to go and what the

  • Fed is going to do with interest rates.

  • If they took away forward guidance, your interest

  • rate announcements or policy decision

  • announcement would cause mayhem.

  • Especially if it's very unexpected or there was a

  • policy change. So I think it's important

  • because they're looking for stability.

When it comes to money, there's one group that's

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How The Government’s Bank Shapes The Stock Market

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    WP に公開 2022 年 12 月 30 日
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