This year kicks off with a constructive backdrop for stocks, led by continued domestic macro indicators, cash-rich corporate balance sheets and, let's not forget, encouraging China data. And a lingering feeling of joy from the holidays always seems to back into equities. Heck, we are even able to get a sense of continuity from the drab European news. All great stuff, really. There is only so much negativity a stock picker is able to wax poetic about without being coined a Nouriel Roubini clone.
But it's the first Federal Reserve meeting of the year that holds the most allure. As we approach Wednesday's meeting, I am reading that whatever the Fed does is already priced into the market. Hearing it once, I would have viewed this statement as an outlier. Hearing it twice, I write it down on a sheet of paper. A third time and I am in hot pursuit of an explanation to determine whether it's a valid argument and unearth a strategy to ring the register.
I don't believe the Fed meeting is a non-event, and I expect it only to add volatility to a market that has become less volatile (the Volatility Index is down roughly 39% since Dec. 8). Why? Simple: We have never had a Fed event quite like the one about to be dumped on us:
- A Summary of Economic Projections ("SEP" sounds cool) will be released, along with a couple of fancy charts. We will be given greater insight into the Fed's thinking on the directions of GDP, inflation, and the timing of an increase in the funds rate. The kicker to this lifting of the veil is that we will be unable to parse which members are doves and which are hawks (17 participate in this baring of their collective souls). So not only does the market have to digest granular numbers, it then has to play a real-time version of the 1980s board game "Guess Who?" A single word sums this up: uncertainty. Looking for an actual sentence to define the moment: There are possible unintended consequences of Fed Chairman Ben Bernanke's push to increase Fed transparency.
Best I can tell, there are a few certainties (from an event that has many uncertainties) the market does not appreciate. They include:
- New voting members of the Fed sound more like doves than hawks.
- Consumer prices have been cooling and inflation expectations (as measured by TIPS vs. conventional U.S. debt) are under control, suggesting the Fed could accelerate its already accommodative policy stance (Quantitative Easing) in the medium-term.
Assuming the Fed continues to err on the side of caution, it may spark stocks further. Market participants would conclude that the Fed is prepared to dip its toe back into QE at the same time that U.S. macro data is improving. If the Fed tosses a carcass to policy hawks by acknowledging the positivity of recent economic indicators, there is still that window of opportunity for stocks to trade higher as rates are unlikely to budge before the communicated mid-2013.
Whichever side of the fence you fall on, commodities are the short-term trade, specifically, the iShares Silver Trust (SLV) following the action in the exchange-traded fund Friday. Underlying that price action is an encouraging fundamental thesis: physical demand for silver has percolated in recent weeks by retailers drawn by the lower prices, sales of silver American Eagles this month are well above the 2011 monthly average, and China's GDP surprise signals that silver will pop.