In a very, very, very highly anticipated FOMC meeting, the Fed has decided not to raise rates for the foreseeable time. Stay tuned for further analysis on this historic Fed day.
Information received since the Federal Open Market Committee met in July suggests that economic activity is expanding at a moderate pace. Household spending and business fixed investment have been increasing moderately, and the housing sector has improved further; however, net exports have been soft. The labor market continued to improve, with solid job gains and declining unemployment. On balance, labor market indicators show that underutilization of labor resources has diminished since early this year. Inflation has continued to run below the Committee’s longer-run objective, partly reflecting declines in energy prices and in prices of non-energy imports. Market-based measures of inflation compensation moved lower; survey-based measures of longer-term inflation expectations have remained stable.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. Recent global economic and financial developments may restrain economic activity somewhat and are likely to put further downward pressure on inflation in the near term. Nonetheless, the Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace, with labor market indicators continuing to move toward levels the Committee judges consistent with its dual mandate. The Committee continues to see the risks to the outlook for economic activity and the labor market as nearly balanced but is monitoring developments abroad. Inflation is anticipated to remain near its recent low level in the near term but the Committee expects inflation to rise gradually toward 2 percent over the medium term as the labor market improves further and the transitory effects of declines in energy and import prices dissipate. The Committee continues to monitor inflation developments closely.
To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate. In determining how long to maintain this target range, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. The Committee anticipates that it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term.
The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.
When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.
Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Charles L. Evans; Stanley Fischer; Dennis P. Lockhart; Jerome H. Powell; Daniel K. Tarullo; and John C. Williams. Voting against the action was Jeffrey M. Lacker, who preferred to raise the target range for the federal funds rate by 25 basis points at this meeting.
RBS sent to clients earlier today:
Fed COMMENTARY: Yesterday saw some modest de-risking in the equities world, seemingly moreso that other asset classes. The most observable was the ongoing short cover is Spooz (modest +2% move over the past two full-day cash sessions), and the unwind of the massively successful equity momentum L/S strategy (which has produced a +17% return YTD), as momentum longs (top 15% of stocks in the Russell3k over the past 12 months) underperformed momentum shorts (bottom 15% stocks in R3K over past 12m) by a mongo 203bps as some monetized a part of the winnings. But whatever…onto the good stuff.
So there are really 4 scenarios out there today—1) no hike, dovish (NH, D); 2) no hike, hawkish (NH, H); 3) hike, dovish (H, D); and 4) hike, hawkish (H,H). The two ‘safest’ outcomes—NH, H and H, D—are viewed as such (“safe”) because they help to offset a true directional lean. I’d expect both of those to see scenarios to allow for higher stocks to continue their grind back higher to Spring all-time highs, and see equity volatility lower—which by the way has been getting PUMMELED, with VXX -15.2% WTD, and even ‘vol of vol’ left tail hedge indicator VVIX -10.1% WTD.
Under what scenarios do we travel ‘off the grid,’ i.e. I don’t have any good feel for market reaction—and thus make me nervous?:
–NH, D: this further shrinks the window of time to get this party started, and in turn, only increases the spastic-gyrations surrounding each and every economic data-point that comes out going-forward. This would seemingly only amplify volatility and uncertainty—thus, BAD–for many investors who I feel like WANT to ‘move on’ from this red-herring Fed sideshow and simply allow the world to realize that stocks can outperform in a rising-rate environment and the early stages of a tightening cycle. The US data is pretty darn solid when it comes down to it, and it feels to me like the market is ready to take the training wheels off.
–H, H: The lowest probability outcome, because it simply hasn’t been telegraphed—this would be a true ‘shocker.’ But a jarring ‘reversal’ of policy would shake out a LOT of lazy stock longs built into 6 years of easy carry, inserting the risk of a disorderly unwind from those who have been anticipating the consensus ‘slow, managed normalization.’ Probably the biggest risk of this would be on the rates side of the trade, where we’ve seen time and time again rate vol spill over into equities vol. a big UST selloff or loss of control in the front-end of the curve could see a bunch of spooky stuff happen, from the leveraged risk-parity hoards being forced sellers in coming-months, or a scenario where a big leap in rates and the USD in turn spurs more of the same EM / commodities melt-down that has thrown this entire hike into question in the first place. Any surprises with the Dollar (which is the perceived ‘no brainer’ largest beneficiary of a Fed rate-hike) is de-stabilizing, because it’s the ‘biggest long’ / most consensual trade out there, and thus represents an asymmetrical risk if it were to ‘tip over.’
But does any of it matter in this case, due to the potential that we’ve already seen the market move into one of the two higher probability ‘safe outcomes?’ A data point that we haven’t spoken about for a few years is the ‘pre-FOMC drift.’ It’s been an anecdotal observation by traders for many for years (since the mid 90s), but in recent years has become so pronounced that academics have had to pick it up and do the work, which has confirmed the observation. The findings are absolutely hilarious to me (and be aware that this piece from David Lucca and Emanuel Moench in ‘The Journal of FINANCE’ is from February 2015—so not including the past few decisions in the data, fwiw):
“We show that, since 1994, the S&P500 index (SPX henceforth) has on average increased 49 basis points in the 24 hours before scheduled FOMC announcements. These returns do not revert in subsequent trading days and are orders of magnitude larger than those outside the 24-hour pre-FOMC window. As a result, about 80% of annual realized excess stock returns since 1994 are accounted for by the pre-FOMC announcement drift. The statistical significance of the pre-FOMC return is very high: a simple trading strategy of holding the index only in the 24 hours leading up to an FOMC announcement would have yielded an annualized Sharpe ratio of 1.1 or higher.”
I just got dumb-er typing this FACT, but guess who knows this? The algos and the quants who love them.
Charlie McElligott
MD, Head of US Cash Equities Salestrading
