The Fed – Market Musings & Data Deciphering – A Big Reversal

Posted by David Rosenberg - Gluskin Sheff

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The bulls would call yesterday’s Federal Open Market Committee (FOMC) press statement to be the sweet spot:

• The Fed effectively declared the recession to be over (“economic activity has picked up following its severe downturn” — this was new).

• The Fed upgraded its economic forecast (“policy actions … will support a strengthening of economic growth” — in the August statement, it was “contribute to a gradual resumption of sustainable economic growth;” “support” means it is here, “contribute” means it is coming).

• The Fed sees NO inflation on the horizon: “subdued for some time” due to “substantial resource slack” and with “longer-term inflation expectations stable” — the part on inflation expectations is new; and the Fed took out its August 12 reference to rising commodity prices.

• The Fed is going to maintain its highly accommodative policy stance even with the economic forecast being taken higher (“economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period”). This commitment is not new, but in the context of the Fed’s more upbeat economic assessment it means that any further talk from anywhere pertaining to the Fed’s exit strategy should be readily dismissed.

This is indeed the proverbial ‘sweet spot’ — the economy turning up, no inflation, Fed on hold. My basic point is that the markets are already priced for it, and then some. From the time the S&P 500 bottomed on October 9, 2002, which at the time was also a massively oversold low, to the time that the Fed’s monetary easing program was over on June 30, 2004, the equity market rallied 47%. That is 47% over a 20-month span. We’ve already done 60% in little over six months.

No surprise that the Fed extended its mortgage buying program to the first quarter of next year, though the pace will slow.


For the first time in this 60% bull run (I still call it a bear market rally), we saw the market sell off on what could only have been described as unabashed good news from the overall tone of the FOMC press statement.   The high for the day on the Dow Jones Industrial was 9,916 at around 2:30 pm — about fifteen minutes after the FOMC release.  At the end of the day, the Dow closed at 9,748.  That’s a swing of 168 points.

At the March lows, we had a huge reversal too, but in the other direction.  I’m obviously not a technical analyst, but we should think about what this could possibly mean (if it means anything at all).  It could imply that the market has run out of buying power.  Or it could mean that the market has already overpaid for the ‘sweet spot’. It could also mean that the psychology of “buying the dips” is over, and a “locking in the gains” mentality may be setting in.  All I know is that this is the first time in this six-month rally that we have seen a reversal to the downside on a positive news day.