Thursday, April 17, 2014
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Market reaction to Fed ‘decision’ surprises some

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From page C1 | December 22, 2013 | Leave Comment

We had a new word of the week for the stock and bond markets. The word was “taper,” not to be confused with “tapir,” a tropical animal with short legs and a long tongue.

Taper became a favorite word in the comments of market analysts, as they guessed what the Federal Reserve was going to do at its eighth meeting of the year. The meeting is limited to seven members of the Fed’s board of governors, known as the FOMC, the Federal Reserve Open Market Committee. As I’ve mentioned before, the meeting was front and center when interest rates were discussed.

There were two competing notions of what the Fed might do at last week’s meeting. The “hawks,” we might call them, were worried that a continuation of low interest rates would lead to inflation. Their argument was that the economy was doing fine on its own without the help of historically low rates. On the other hand, the “doves,” who were opposed to the idea of higher rates, wanted the discount rate to stay where it was. So in the days before the Federal Reserve Open Market Committee meeting, you couldn’t avoid hearing an opinion about what the Fed might, or should, do about rates.

When the Fed’s decision was announced, it seemed to surprise both sides. About 18 months ago, the Open Market Committee decided that the economy needed a boost, and as a result the discount rate was lowered to close to zero. Of course, you and I can’t borrow at no charge, but the discount rate influences lenders of all kinds.

What the Fed did to keep rates low was also kind of unusual. They bought $85 billion worth of “Treasurys, mortgage-backed securities, loans, coins, buildings and other assets,” according to The Wall Street Journal. Well, 18 months of buying all those assets has resulted in a towering $4 trillion portfolio held by the Fed.

Their primary concern was to revive the entire economy with a focus on the housing market. Their strategy seemed to have worked, at least to some extent.

So, with the housing market humming along, and the economy in better shape than it was when the bond-buying started, why does the Fed need to stick to its strategy? Here’s where the “taper” comes along.

The Fed’s announcement after its meeting was what is often called a “Goldilocks” decision. They held rates low, which pleased the “doves,” but in decreasing their monthly purchases, they were probably allowing rates to rise on their own. What surprised some observers, including yours truly, was how strong the stock market was in the days after the nondecision decision.

For years, I misjudged the effect of events on the stock market. I guess it happened again last week, as the market defied gravity and kept rising. I confess that my “learning curve” tilts in the wrong direction. I shouldn’t feel bad, since hardly anyone on TV’s stock market shows gets it right consistently. So there.

Bud Stevenson, a retired stockbroker, lives in Fairfield. Reach him at Bsteven254@aol.com.

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