Mr Market Goes to Washington

by Wayne Ferbert on September 18th, 2013

All eyes are on the Fed today! Today’s Fed Statement is one of the most closely watched economic announcements in some time. The Fed will conclude its meetings and give some indication about when it will start to Taper its bond buying program – otherwise known as QE.
The irony about today’s announcement is the expected market movement based on the outcome. The movement towards a Taper is an announcement by the Fed that they think the economy is improving. In every normal market of the last 20 years, that would be viewed as good news that drives the market up.
This isn’t your Father’s market. This market will decide that the Fed is taking away its party punch and the risk premium built in to this market will need to increase. Hence, prices will need to decline. In fact, the return premium on virtually EVERY asset class will need to go up. So, expect prices to decline.
On the other hand, if the Fed slows its roll on Taper, then it is signaling that the economy is not improving at the rate we had all hoped for. This would be viewed as bad economic outlook – and hence the market would normally sell off. But not this market. This market would applaud the punch being kept around – helping to keep risk premiums lower.
It really is like the owner of the bar deciding to extend happy hour prices in to the evening. We all know its bad for us because it will fuel our demand to party in excess – and that rarely leads to a good outcome the next day. We often regret that decision. But we all applaud the bar keeper when he does it
It is interesting that the market marched up to over $1700 on the S&P500 right ahead of today’s announcement. This level might not be sustainable in the event of either announcement by the Fed. We are starting to get top heavy in the market valuation – and the recent earnings season didn’t justify any real increase in earnings multiples.
The market really could move either way on either decision today. The rally could extend – though don’t expect that if the Fed starts its Taper program. But it could happen. And the market could sell off – it is at $1700 after all. One thing is for certain, once the Fed materially starts to Taper, risk premiums will need to increase – and that will not be good for any asset class in the U.S.

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