The Fed Casts It’s Vote For Hillary Clinton

  • Damned if they did…
  • The Fed has become a political body
  • Stocks respond
  • Bonds react
  • Commodities are signaling inflation

Seeking Alpha declined to publish this piece….

As the FOMC meeting approached last Wednesday, less than 20% of the market expected the central bank to hike rates. We heard lots of hawkish language out of the Fed in late August, but that gave way to inaction at the September meeting. Now, after nine months of Fed meetings in 2016, the central bank has not delivered on its promise at the December 2015 meeting to hike rates 3-4 times in 2016. The Fed Fund rate remains at 25-50 basis points, exactly the level it was on December 31, 2015. The Fed has lost more credibility after their inaction at the September meeting.

The official statement from the Fed said that the case has strengthened but they prefer to wait for further evidence of continued progress in the economy. They told markets that risks have diminished but inflation remains below their 2% target. There were three dissents at the meeting, Esther George, Loretta Mester, and Eric Rosengren all favored an immediate interest rate hike. In the case of Rosengren, the Boston Fed chief has told markets he is concerned about asset bubbles in the current interest rate environment. What was absent from the Fed statement was the underlying reason for no rate hike; the Presidential election is just seven weeks away. The Fed likely believed that no action is an apolitical stance but I doubt the Republican candidate for President will see it that way.

The result of inaction will likely cause the stock market to rally from the pre-meeting level. A higher stock market is a positive for the incumbent party as the U.S. will go to the voting booths on November 8.

Damned if they did…

The fact is that economic conditions in the United States have supported a rate hike for months now. At the beginning of the year, it was understandable that the Fed paused as Asian contagion overwhelmed U.S. markets sending the S&P500 11.5% lower over the first six weeks of the year. Then, slower U.S. growth caused excuses for the Fed wait. The Brexit vote and result of the referendum became a concern for the central bank. However, since the Spring U.S. economic data supported a Fed Funds rate of higher than 25 to 50 basis points. The lack of action by the Fed earlier in the year backed them into a political corner as they met last week.

If they increased rates, the chances are that the stock and bond markets would have corrected lower. After all, the hawkish tone of statements in late August gave the central bank a preview of equity market action in the event of a rate hike. Lower stocks would be problematic for the incumbent political party going into the November general election. With no change in rates, the stock market will likely rally or at least remain stable at high levels, a problematic issue for the challenging Republican Party. Therefore, the Fed could not avoid a political stance at their September meeting, and they cast their vote for and endorsed the Democrats.

The Fed has become a political body

The U.S. central bank has become a political body as a result of their inaction over the first three-quarters of 2016. My question for the Fed is, why all the hawkish talk in late August if you never planned to increase rates in September? The answer is probably that the monetary authority floated a trial balloon, did not like the reaction from the bond and stock markets and decided not to act. Another possible answer is that with the polls tightening in the Presidential election, the Fed would prefer to see a continuation of the status quo when it comes to fiscal policy in Washington.

In her press conference following the Fed decision, Chairperson Janet Yellen pointed to an economy making progress and a positive employment outlook. She said that the central bank is struggling with what constitutes a new normal for the U.S. economy. On the political front, Yellen said, “We do not discuss politics at our meeting, and we do not take politics into account in our decisions.” While that may be the case, the actions or inactions of the Fed have serious political ramifications. I believe that the members of the Fed in their hearts attempt to remain apolitical, however their decision has will impact the upcoming election. Perhaps the best question asked of the Chairperson was why if the Fed had so much concern about the Brexit vote is a controversial Presidential election any different? The answer to that question was insufficient, in my humble opinion.

Stocks respond

The stock market reacted to the Fed decision last week by moving higher. As the daily chart of the S&P500 highlights, the equity index put in a bullish key reversal trading pattern on the day of the Fed decision to keep interest rates unchanged. The other main stock indices also moved higher and finished last week with gains.

The Fed decision means that there will be no rate hike in the United States before the Presidential election. The latest decision from the Fed will likely cause stocks to move higher. Capital flows searching for growth and dividend yield have few other assets to consider these days. A positive trajectory for the stock market favors the incumbent party in the White House and therefore is a vote for candidate Clinton.

Bonds react

In the aftermath of the Fed meeting, the 30-year Treasury bond rallied. The chart of the long bond futures contract illustrates that it has declined from over 175 in early July to lows of 164-13 last Wednesday, the day of the Fed meeting. The decision triggered a rally in the futures which put in a key reversal trading pattern on the daily chart as a recovery in the long-bond caused long-term rates to decline once again in the lead up to the election. The markets had been concerned about the emerging bearish trend in the 30-year treasury, and that influenced equity prices lower over recent weeks. However, the Fed decision seemingly ended the bearish run on bonds, for now. Once again, this favors the incumbent party when it comes to the November 8 election.

Commodities are signaling inflation

As one would expect, commodities prices moved higher after the Fed left rates unchanged. Boston Fed President Eric Rosengren expressed concern about asset bubbles, and those are likely to develop in volatile commodity and real estate markets. Precious metals and energy commodities rallied in the lead up to the Fed decision and added to gains after the announcement. While the Fed has told markets that inflation remains below their target rate, many commodities have posted significant gains over recent months. The ultimate barometers of inflation on a historical basis are gold and silver. The daily COMEX gold futures chart illustrates that the yellow metal put in a bullish key reversal trading pattern on the daily chart on the day of the Fed meeting. Gold followed through to the upside over the rest of last week. The daily chart of COMEX silver futures displays the same pattern seen in gold.

Eight years of cheap money policies by the central bank will come at a cost. Precious metals are signaling that the price is inflation and Eric Rosengren’s concern about asset bubbles in the stock and real estate markets are well-founded. The Fed will eventually need to hike rates. I believe that this action is long overdue given the moderate growth in the U.S. economy, stable employment data, and rising commodity prices. An economy growing at 2% requires a short-term rate greater than 25-50 basis points. After all of the hawkish talk in Jackson Hole in late August, the Fed has decided to do nothing at the September meeting once again. I cannot help to think that there is a degree of political motivation in the inaction. The Fed knows that any rate hike will come with some pain in the stock and bond markets. Yellen stated over and over in her press conference that the Fed does not take politics into account in their decisions. The bottom line is that the economists at the Fed knew that no action would cause a rally in stocks, bonds, and commodities and that this brightens the prospects for a Clinton Presidency. The Fed cast an early vote for the Democratic candidate, whether they want to admit it or not.

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