Daily Market Reports | Jun 23 2011
By Greg Peel
The Dow fell 80 points or 0.7% while the S&P fell 0.7% to 1287 and the Nasdaq dropped 0.7%.
“We do not have a precise read on why this slower pace of growth is persisting,” said Fed chairman Ben Bernanke in his press conference earlier this morning. In a nutshell, that's why Wall Street was flat at 2.15pm before the conference began but accelerated down thereafter to close on index lows at 4pm.
For the past few months, Bernanke's mantra has been one of a US economic recovery picking up again in the second half of 2011 following what has been a “temporary” slowdown in the first. That slowdown has been affected by “transitory” strength in commodity prices, the chairman has insisted, affecting higher consumer costs for food and energy, and by the Japanese earthquake, which has affected a flow-through to lost US production and sales. You can also throw in the weather.
Interestingly, last night's scheduled Fed monetary policy statement did not waver from this mantra. One can certainly argue that commodity prices have indeed come off from their highs. But curiously, Bernanke himself did waver when peppered by questions at what was his second of four press conferences scheduled for this year. At one point he admitted that putting a time frame on things such as exit strategies was difficult when there are 17 members of the FOMC with varying views. Did that statement also indicate Bernanke's own view differs from that collectively declared in this and earlier Fed statements? Because at his press conference Bernanke made an admission that rather surprised the gathered hacks.
“Some part” of the slowdown was due to temporary factors, suggested the chairman, but it was also possible that “longer-lived” issues are having an impact which could persist into 2012. Which takes us to the candid admission at the top of this report.
The Fed has now reduced the midpoint of its 2011 GDP forecast growth range to 2.8%. In April it was 3.2% and in January it was 3.7%. At the same time the Fed increased its end-2011 forecast unemployment rate and also its 2011 forecast annual core inflation rate. Slowing growth, rising unemployment and rising inflation – that's called “stagflation” in most text books.
In a weaker growth scenario, QE3 comes into play. But QE2 was a response to the threat of deflation while now the Fed is more focused on rising inflation. So there won't be a QE3. But what about the other side of the coin? When pressed, Bernanke suggested that the “extended period” of a near zero cash rate at this stage implies no change for “at least two to three meetings”. FOMC meetings occur every six weeks.
So there is no change to the Fed's plan to end QE2 shortly but to continue to reinvest interest payments and maturing bonds such that the central bank's balance sheet remains static at around US$2 trillion of debt securities. But while to date this has been seen as a somewhat emphatic “QE2.5”, now it looks more like a middle ground, concession tactic based on “We do not have a precise read on why this slower pace of growth is persisting”.
And then of course, there's the fiscal side of the equation. One criticism of Bernanke is that his previously dismissive “temporary” mantra ignored the impact on the US economy and stock market uncertainty of the current wrangling in Congress over whether or not to increase the US debt ceiling and to just what extent government spending needs to be cut. The “rock and a hard place” decision is one of either committing the US to eternal debt or risking recession through sharp and sudden fiscal tightening – an impact the Europeans are now all too familiar with.
With the Fed now also at a loss there appears to be more than one uncertainty chink in the US armour. Oh how the mighty have fallen.
The swift drop in stock prices post the press conference was matched by a sudden rise in the US dollar index. The dollar had been trading lower for most of the day as the euro, reinvigorated by the vote of confidence in the Greek government late on Tuesday night, pushed higher again. But with yet again no talk of QE3 despite a reduction in GDP growth forecast the pendulum swung. It's completely counterintuitive of course – a currency should fall on expectation of lower economic growth, but if lower economic growth implies a need to print more funny money then all is reversed.
So the US dollar index finished up 0.4% to 74.90 and the Aussie is off 0.3% to US$1.0573. Gold is up only US$2.40 to US$1548.90/oz and silver is flat.
In terms of real commodities, closing prices were all marked before Bernanke's press conference and thus were supported by what was then a weaker US dollar. The big mover was Brent crude, which reversed recent weakness on Greek concerns and jumped US$2.24 to US$113.49/bbl and pressed higher still in the after-market. West Texas was up US27c to US$94.44/bbl for the new August delivery front-month. All base metals were higher in London, with the standouts being lead up 3% and nickel and zinc up 2%. But these moves need to be taken with a grain of salt as the reaction to Bernanke will come tonight.
Had there not been a Fed statement and press conference due last night, one might have expected Wall Street to push higher in response to the Greek vote which was held after the close on Tuesday. Instead it simply traded sideways in anticipation of Bernanke. The VIX told a tale. It dropped sharply early in the session – the Greek issue suddenly looks less frightening at least for the time being – before bouncing back up again after the press conference. A closing level of 18.5 is nevertheless hardly one of panic.
A politician would say the proof will be in the pudding for the US when in two weeks time the June quarter profit reporting season begins. Results will be important, but perhaps more important will be September quarter and ongoing guidance. Just what impact has the slowdown had on corporate earnings?
Of course an intelligent person would never mangle Shakespeare. The proof of the pudding will be in the eating.
The SPI Overnight fell 19 points or 0.4%.
Rudi will be appearing on Sky Business today at noon.
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