“The policy has hit its ‘sell by’ date.” – Daniel Alpert, Westwood Capital, speaking of QE
Our Monthly Macro is a recurring post that appears on the first Tuesday of every month and recaps the high level macro developments of the previous month. We highlight the global themes that we believe are the most important and discuss why they matter for investors. This month’s piece will focus on the poor start to the year for stocks, Bernanke’s last move as Fed chairman and the growing belief in the global economic recovery.
Bernanke Passes The Baton
After eight years at the helm of arguably the most powerful governmental institution in the world, Ben Bernanke is no longer Chairman of the Federal Reserve of the United States. History will undoubtedly look back on Bernanke’s chairmanship and focus on his role in blowing the last breaths of air into the housing bubble, as well as his heavy handed intervention amidst the global financial crisis and the tepid economic recovery in the years following. Just days before leaving office, Bernanke and his FOMC voted unanimously to follow up its December decision to taper its asset purchases by $10 billion a month with a further trim of an additional $10 billion a month. “QE-Infinity”, as it has been called, is now running at a $65 billion a month pace, down from $85 billion just two months ago. More importantly, the program now falls under the care of newly elected Fed Chairman Janet Yellen who was sworn into office Monday morning.
WHY IT MATTERS: Monetary policy has been the single most important macroeconomic influence over capital markets in recent years. While we don’t expect any material change in policy direction, the changing of the guard at the Fed is an important event for anyone with money at risk in financial assets. The move by Bernanke to announce the second $10 billion taper last Wednesday is also significant, as it signals the Fed’s desire to continue moving to the sidelines even in the midst of volatility and uncertainty that is currently gripping the global stock market. It’s likely that quantitative easing will be completely behind us by this time next year.
Stocks Emerging Lower
After a spectacular 2013 (one of our themes in our last Monthly Macro was Stocks to the Moon), equities stumbled into the New Year on a very disappointing note. The MSCI All Country World Index, one of the broadest measures of the global stock market, declined by 5% during the month, but the real source of the problem was the emerging markets which were off by 9%. There are a number of factors buffeting the emerging markets right now. The Fed’s decision to taper its asset purchases, for one, has triggered a flood of capital to leave emerging market assets and return home to the US over the past year. The thinking goes that much of the liquidity injected by the Fed has found its way to emerging economies where investors can capitalize on higher yields and growth rates. That liquidity will now be drying up as the Fed winds down quantitative easing. This trend was further exacerbated by an incremental slowdown in China’s economic data, with both service and manufacturing activity indexes flirting with contractionary levels.
WHY IT MATTERS: Sentiment indicators pointed to a clearly overbought stock market as 2013 came to a close, so a pull-back of this magnitude is healthy and to be expected. Diversification helped in January, as gold and long-term treasuries also reversed their recent course, up 3% and 6% respectively. We recently received a sell signal for emerging markets from our regional MarketVANE model, so we are entering February with minimal exposure to these markets. While we run the risk of having sold into an intermediate-term bottom, our sell discipline protects us in the case that the recent emerging markets “panic” morphs into an all-out “crisis”.
Global Growth Optimism
The World Bank lifted its global economic growth forecast from 3.0% to 3.2% mid-month, a revision that was followed by the International Monetary Fund raising its 2014 forecast to 3.7%. Even the Federal Reserve, in its statement following its second taper, firmed up its language about the US economy stating that “growth in economic activity picked up in recent quarters”. These revisions come on the heels of a surprisingly weak December jobs report in the US and a string of disappointing economic data out of China. Even amidst the turmoil that roiled emerging markets in the second half of the month, economic forecasters stuck to their bullish guns and continued to remain optimistic about a pickup in global growth.
WHY IT MATTERS: As John Mauldin stated in a recent commentary, “Sentiment, rather than fundamentals, is driving the US stock market, and sentiment can quickly reverse.” It has been confidence more than anything that has thrown stock prices and economic growth into gear over the past eighteen months. Confidence, as we know, can and has been very fragile in the post-financial crisis world. Watching how expectations react to the inevitable bumps in the road will be important in determining if psychology is likely to continue being a tailwind or if it is reversing course and becoming a headwind. Despite a rough start to the year in investor portfolios, it doesn’t appear that the intermediate-term outlook for a generally improving global economy has been shaken.
Author David Houle, CFA is a founding member of Season Investments. He serves as the firm's Chief Compliance Officer as well as sitting on the investment committee overseeing the management of client assets. David spent nearly ten years in various roles primarily managing individual client assets prior to co-founding Season Investments. David graduated with a degree in Finance from Colorado University in Colorado Springs in 2003 and earned the Chartered Financial Analyst (CFA) designation in 2006. David and his wife Mandy have three children and spend most of their free time with friends and family.
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