Source: Vancouver Media/Netflix
FOMC meetings and the Netflix series Money Heist have many similarities. They both are focused on a nation’s money, and the key players are an opinionated, highly vocal, yet diverse group of individuals with questionable ethical standards. Both groups were fans of “helicopter money” to help achieve objectives. The major difference is that a somewhat nerdy, criminal mastermind leads one group, and the other is led by, according to Senator Elizabeth Warren, “a dangerous man.”
The “dangerous man,” Fed Chair Jerome Powell, was front and center on October 13 with the release of the FOMC minutes from the September 22 monetary policy meeting.
Financial markets were jittery ahead of the release in the unlikely event the data revealed a previously unknown nugget of information that would clarify the Committee’s intentions. No such luck.
The minutes more or less confirmed that the Fed would announce its tapering plans at the November 3, or December 15 meeting, stating: “Most participants remarked that the standard of “substantial further progress” had been met with regard to the Committee’s price-stability goal or that it was likely to be met soon.”
That shouldn’t be a surprise to anyone in financial markets. Mr Powell made similar comments at his post-FOMC meeting press conference.
Most recently, on October 12, Vice Chair Richard Clarida said he believed the “substantial further progress” standard had been met. He also noted, “at least half of the 18 FOMC participants in their Summary of Economic Projections (SEP) submissions projected that these necessary threshold conditions for liftoff will be met by December 2022.
“Ultra-easy money is dead-Long Live easy money.”
The Fed may raise interest rates next year but will most certainly increase them in 2023. They won’t be alone. The Reserve Bank of New Zealand and Norway’s Norges Bank have already hiked.
The Bank of Canada may join the club and could even beat the Fed off the mark. The October 8 Canadian Labour Force Survey was stellar. Canada recovered all the jobs lost due to the pandemic, and the economic growth is expected to be robust in the fourth quarter.
Historically, when interest rates rise, equity prices fall. That relationship may be “on a break,” if not a full-blown separation.
The S&P dropped 33% between February and March 2020 as the pandemic swept across the globe. It drew comparisons to the Great Crash of 1929 when the Dow Jones Industrial Average plunged 25% in five days, sparking the Great Depression.
Governments and central bankers learned from history. They slashed borrowing costs and pumped money into their economies like they had a printing press with unlimited ink (well, actually, they do). According to the IMF, by the end of 2020, they added $19.5 trillion to the global debt.
That’s a lot of stimuli, and it did the trick. The Great Depression lasted nearly four years.
The Pandemic Depression ended after just two months.
At least, that is what the National Bureau of Economic Research (NBER) said in July 2021, and the NY times describes them as the “arbiter” of US business cycles.
That means the current rally from May 2020 is an expansion rather than a peak of the 2008 rally.
Equity bulls point to several factors that will drive prices higher.
If you believe the NBER’s Business Cycle Dating Committee (no, it is not like Ashley Madison), the US economy is very early in a new business cycle, and business cycles last an average of seven years.
High levels of vaccinations are unleashing pent-up consumer spending, which will fuel demand for products and services.
Interest rates are meager and even a 1.0% rate hike will leave rates well below historical averages.
The S&P 500 doubled from the March 2020 pandemic low to the September 2021 peak and is has gained 19% year-to-date. Royal Bank of Canada’s 3-year GIC rate is 0.5%, while Canada’s inflation rate in August was 4.1% y/y. Investors really do not have a choice.
But it doesn’t mean that S&P gains will be a one-way street and prices could retrace 50% of this year’s YTD gains and remain in an uptrend.
Traders know that and will be quick to react to negative news. The media is rife with articles about “stagflation,” an economic term to describe a period of high inflation with high unemployment and slow economic growth. If that view gets legs, it will send equities tumbling.
Oil prices are another concern for equity markets. West Texas Intermediate prices are trading at levels last seen seven years ago. Opec, the International Energy Agency, and many investment bank analysts predict further price gains as rebounding global demand outpaces short-term supply. If prices rise too high, too fast, fears of an inflationary backlash and economic disruptions will drive equity prices down.
The Canadian dollar has front row seats on the equity/oil rally bus, but as fans of Money Heist know, even the best plans never anticipate all the variables.