Can it really be true? Could we actually be happy about a rate hike that will, by nature, slow the economy and make businesses less likely to expand and chill more employment? That's what happened today after the fed made its long-expected quarter point increase in the fed funds rate.
The answer is yes, but yes for a reason. The departing Fed chief, Janet Yellen has followed her predecessor and made it clear for months what she was going to do. Her transparency, which I hope will be continued by incoming Chair Jay Powell, is the reason why the market doesn't get slugged in the face by the increase.
Now, there's a whole generation of money managers and investors who actually don't even know the way these meetings used to go and how the Fed chief used to act. Everything was cloaked in secrecy. We never knew what they were going to do. We never had any ability to figure out why the heck they did what they did beyond a boilerplate statement that was really just gobbledygook.
That can explain why we weren't poleaxed. But why does the market actually like a rate increase?
A couple of reasons. First, it really doesn't but investors expect that rates can't stay down here forever because even though there's not much wage inflation we do have real estate inflation and we have stock market inflation. Rich people have plenty of free money to play with and it is helping to put people to work. We are almost at full employment yet we still have low wage inflation. At this pace, though, even those who think that inflation is moribund recognize that we don't want a huge lift in wage inflation even as we want everyone to make as much money as possible. A Fed that battles inflation is a Fed that increases purchasing power and prevents inflation from eroding long term values including stock values.
At the same time as the economy builds a head of steam, stoked by the coming tax cuts, it is important to go back to the Fed's imperative: which is t promote solid growth with low inflation. Or to use a cliched sports analogy, the Fed has to skate to where the puck will be which is a sense that inflation will come back because money is too cheap and Washington is throwing acetylene on the economic fire. We can't have it get too hot because we know that's never been good and we can say this time will be different but that's usually a pretty dangerous assumption.
In other words, we want a healthy economy and we trust the Fed's judgment that we are healthy and will stay healthy even with big tax cuts. We like the economic report card the Fed gives us and it was a good one and so buyers do come in off the sidelines both because of the positive checkup but also because this is the last big event before year end and it is over and it didn't do us in.
Okay, that's what happened. What is going to happen, particularly with the stock market after the Fed's actions? How does it impact the bull?
First, I would say, from these low interest rate levels, not a lot of damage can be done yet to either the economy or the stock market. We get a couple more of these, and we will.
Higher rates can kill the bull if they are really competitive to the return of stocks. We aren't there yet, either. As my good friend and money manager Ken Fisher reminded me today in a roundtable we did, the late legendary John Templeton told the truth when he said "Bull markets are born on pessimism, grown on skepticism, mature on optimism and die on euphoria."
I think that we are in stage three, optimism. We are optimistic about 2018. We are optimistic that the Fed won't kill the economy. We are optimistic that inflation is under control. We are optimistic that more jobs will be created, augmented by the tax bill. We are optimistic that stocks can keep running even as there is still enough skepticism out there that there's plenty of money on the sidelines.
I simply don't see enough enthusiasm out there to say we are euphoric and the most euphoric part of the firmament is the crypto-currency world and I liked what Fed Chief Yellen said which was basically that it's still small potatoes. I get the sense that when it becomes big potatoes -- and I think it will --they will have a more forceful policy but right now she sure didn't try to rein in the euphoria.
Now, let's understand, it's not like all things are well. We do not have enough high skilled jobs being created in our country and our productivity as Yellen told us, is not improving fast enough. I thought it was telling that the big job news today came from Apple (AAPL) which awarded Finisar (FNSR) , a small fiber optics company, $390 million from its Advanced Manufacturing Fund that CEO Tim Cook first outlined on Mad Money. It will produce 500 new and needed jobs at a shuttered manufacturing plant in in Sherman, Texas. Apple will be buying Finisar's devices, a substantive claim to buying American. Without this injection of capital I believe that Finisar would struggle versus foreign companies. Now it's got a chance to be even more competitive than they are. That's capitalism at its best.
Despite aggressive deregulation of the banking sector we still don't have enough lending and some of that is because the long-term interest rates that the Fed doesn't control haven't been rising. The banks want to borrow from your deposits and give you next to nothing and lend at higher rates than they currently can. If the Fed were to start selling its huge bond hoard before it raised rates again we could get that inflection that would spur lending. Yellen's not wanted to do this. Maybe soon-to-be Chairman Powell will sell longer term bonds and give us some higher longer rates which would then cause banks to write more loans to more than just really rich people.
But we must be on the lookout for euphoria so let me give you some signs. First, if we saw a tremendous amount of insider selling and secondary stock offerings and they were lapped up, something that happened in 2000, we could be in trouble. If we saw people trading houses like they did back in 2007, we could be too euphoric. If we saw a gigantic amount of margin debt being taken down to buy stocks that would be euphoria. If we heard of outrageous price targets for stocks and if we started bidding up the prices of companies without any earnings or even any revenues we would be hit with the euphoric stick.
That's not happening now. We are simply in the zone where we feel pretty good, ten years after the economy was almost destroyed and we were worried about the possibility not of a stock market collapse but of a banking collapse. I think that we are in the optimism phase and no further because there are too many people who remember that destruction and are staying in cash and may stay there for the rest of their lives. We have too many people who are risk averse because like our depression relatives they fear losses more than they desire gains. They don't even seem to care that there's not just growth here but around the world. They will remain too vigilant and too cautious for this time.
So, do we party down with stocks? No, actually the opposite. We should continue to be vigilant that we aren't buying or owning stocks of companies that aren't doing well. We should always be willing to take something off the table to have some cash as club members of my charitable trust know I continue to do.
And we should be ready for something that's less predictable than the Fed under Janet Yellen. With this, her last public press conference as Fed chief, we wish her well and thank her for her glorious service.