MAKING SENSE OF THE FED

By Ben Turney.

So, hands up if you expected the Fed to do nothing?

Are there one or two hands at the back there?

No, I thought not.

Last night, there was a valuable lesson for all of us. No matter how strong a consensus is, it can often still be wrong. Judging by the extreme moves across the board, it looks like there is a frantic amount of repositioning now happening. I am still long gold (and pretty delighted about that), but I’ve missed the boat on stocks (which I’m less happy about).

For anyone hoping for a normalisation of monetary policy, the last week has been pretty disastrous. First Larry Summers withdrew his candidacy for the post of next Fed-Chairman. He had been the favourite to take on the role, but attempts to secure the position for him ran into the muddy swamp, that is the modern American political process. Apparently Mr Summers would have knocked some sense into markets and pursued a more hawkish approach. With the financial services lobby as powerful as it is, it probably isn’t too great a surprise that he didn’t make it through the selection process.

Now, it is expected the anodyne Janet Yellen will succeed Ben Bernanke. As far as “safe” pairs of hands go, the Wall Street cabal couldn’t hope for a better person in charge of the tiller. Perhaps she will surprise us, but the early indications are she is an arch proponent of the exceptional and “accommodative” polices of the last few years. In other words, she’s just a female helicopter.

So what about last night then? How exactly has that happened?

Although the media consensus (which I’m afraid I was part of), was that the taper would be announced, there were actually some clues that the Fed hadn’t made its mind up. In hindsight, the growing strength in stocks over the last few weeks should have been more telling. The pity is I had a sense a buying opportunity was brewing, but I just didn’t have the courage to pull the trigger and do anything about it. After all, the ticker never lies!

The second set of clues, which I’m afraid I ignored, came from Bernanke’s media surrogate Jon Hilsenrath. If you do a Google news search for Jon Hilsenrath, you will note the tone of his recent coverage heavily lent towards last night’s decision being a close call. In his mind, it most certainly wasn’t the shoe-in the rest of us had come to expect. And, as his mind has been directly led by Ben Bernanke, that should have given more of us pause for thought.

For the time being, I am just going to hold my positions. There is likely to be more volatility in the coming days, as the market digests the implications of last night. For what it’s worth, I think the lack of action is going to remind a lot of people that the Fed’s exit strategy is likely to be extremely disruptive. This should benefit risk assets, the precious metals in particular.

But I also think there is a wider problem. The official reason for not starting the taper was that the economic numbers don’t support it. I think this is a fudged excuse.  We’ve seen across the board improvement in the official stats, albeit relatively weak. However, have the numbers been so weak to justify a continuation of $85billion a month of bond purchases?

I would say not. What I think is far more likely is that the members of the FOMC are more concerned about the looming debt ceiling. After the brinkmanship of the last two occasions this issue has been with us, it would be a surprise if the politicians don’t squabble up until the last second again. This lack of leadership and inability to deal with the fiscal nightmare America increasingly finds itself in has a corrosive effect on confidence. Intuitively we all know how this is likely to end. Removing QE before the debt ceiling is raised once more (because what else are they going to do?!) could have compounded the fears Congress and the White House look set to stir up again in the coming weeks.

Since the modern economy is one of the greatest confidence tricks ever concocted, policy makers are treading a fine line in revealing too much truth at any one time.

The next FOMC meeting is at the end of October. There should be a lot of fun and games before then.