The Federal Reserve is supposed to be gentle in the way that it releases news to the markets – for fear of producing wild swings in indices like the S&P 500. Yet yesterday that S&P 500 index moved 100 points, near 2%, on a Fed release. So, what’s going on?
More to the point, it wasn’t even a release that detailed a change in Federal Reserve policy – there was no change in interest rates announced, no change in the taper of bond purchases, certainly nothing as exciting as an actual reduction in the balance sheet. It was just the minutes of the last meeting that were released.
But there perhaps is the secret itself. Precisely because the Fed is gentle in announcements – it doesn’t want a repeat of the taper tantrum of the recent past – we find that slight changes in emphasis now have the power to move markets as with the S&P 500 index here.
The background is obvious to everyone. The American economy is booming – well, as booming as a mature economy at the edge of the technological envelope gets at least. That’s why there’s that pesky inflation up at around 6% by CPI and 9% perhaps by PPI measures (that second isn’t important but folk like to quote it). Yes, of course, some of this is transitory and the result of base effects and the logistics snarl of unwinding lockdown. But an awful lot of people think that’s not all there is to it. Certainly “transitory” is taking on a very stretched meaning.
The Fed’s price target is 2% inflation by the PCE core measure they prefer. The Fed has also said that it will allow inflation to run hot to catch up with the inflation we didn’t have just recently. An odd decision but there we are.
The net of all of this is that we know that the Fed is going to raise interest rates at some point. We also know they’re going to taper their current expansion of the balance sheet by reducing new bond purchases. They’ve announced both these things, we know them.
So, why such a move in the S&P 500 index? Because the minutes of the last meeting were released yesterday. These are poured over for details like the linup atop Lenin’s Tomb was for who’s in and who’s out among the Politburo. Tiny changes of emphasis are taken as being immediate harbingers of changes in policy.
The actual Fed minutes are here. Essentially, the side speak of some of the participants in the last meeting – the one the last announcement came from – are that the Fed might have to speed up the interest rate rises, taper purchases more quickly.
It’s precisely because the Fed does signal ahead so much, is so tender with the market, that such small details have that outsized impact on the S&P 500 index.
As to going forward, it is Fed policy that’s likely to be the major effect on general stock market levels, the Dow, the S&P 500 and the Russell 3000 and so on. Even, that thoughts about what they might be, those Fed policies – as here – will be major influences.
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Tim Worstall is a freelance writer specialising in economics and the financial markets.