Investors React to Bernanke – What’s Next?

The Fed Chairman was cautious about the employment outlook, economic growth and housing. He failed to confirm any further action by the Federal Reserve relative to quantitative easing. That prompted a response from investors as they sold stocks, gold and oil. The stocks and commodities fell while bond yields rose pushing prices lower. What does it all mean? The reaction would be a statement that investors were pricing in more liquidity from the Fed on the horizon. The lack of confirmation by the Fed sent traders to the exit.

In all fairness a move lower of 0.4% on the S&P 500 index isn’t exactly selling! The headlines on the financial media websites acted as if the markets were off 5% on the news. That said, let’s break down the Fed’s comments and put them into perspective with the outlook for the markets.

First, jobs, jobs, jobs. There is no one specific sector to focus on with this comment, but  it does influence tax receipts by the Federal government and the deficit. Not to mention less money funding social security and medicare. He did state, “the job market is far from normal.” The Fed wants stronger growth in jobs and they are willing to do just about anything to accomplish that task. One thing stated was, “they are no closer to QE3.” That sent stocks lower and bond yields higher. Thus, if the Fed is willing to keep interest rates at 0% for the foreseeable future (2014) what happens to bonds. The thirty year Treasury closed at 3.08% up 0.04% on the day. The bond has continued to trade in a tight range as yields float between 2.9 – 3.2% currently. Based on the commitment to job creation don’t expect this picture to change anytime soon.

Second, the lack of interest by the Fed in QE3 currently sent gold down more than 5% at one point on Wednesday. The price fell below $1700 overnight after closing on the NYNEX at $1710 an ounce. Silver fell more than 6% on the news as well. Interpretation… no more free money dumped into the system will keep inflation at bay for the near term. Commodities fell across the board in response. If the Fed stops now with the free money dump into the system, does that conclude there will be no inflation despite past actions? Interesting assumption, but the proof is in the pudding,  so to speak. I would be interest in the trade opportunity in the precious metals based on the reaction in prices on Wednesday. GLD and SLV should bounce back from the reactions.

Third, oil prices and the economy? Bernanke stated the rise in prices could push up inflation and reduce consumer spending. That seems to me to offset the lack of QE3 above in terms of inflation? Thus, we should watch gold and silver prices as the conflict works itself out. The latter part of the comment is what I am concerned about… the curbing of spending by the consumer. Higher gasoline prices act as a tax on the consumer and will have at least a short term impact on spending. The pressure on oil supply relative to the tension in Middle East is the concern or speculation driving oil prices higher. This is a sector we have owned as the price of crude heated up. XLE, OIH, IEO, UGA and USO have all been in play relative to the move higher based on speculation. If we are to offset the higher prices at the pump for gasoline and negate the tax effect we have to invest in the sector.

Last, but not least, zero percent interest rates and the impact on the savers and retired investor. The Fed Chairman believes the impact is offset by the benefits of a stronger economy? Say what? Wow, that is truly one of the more esoteric comments of the day. I meet with investors everyday who are retired and I can tell you the impact on the retired individual is not being offset by the stronger economy. In fact, the erosion in lifestyle for the average retired individual has been dramatic. The zero percent or one percent interest rates on savings and CDs has considerably impacted the income stream for those in retirement. If they have $500,000 earning 1% today in yield versus 4% four years ago, they have dropped $15,000 in income versus the cost of living adjustments moving higher. The 3% GDP in the fourth quarter has done precious little for the retired person paying more at the grocery store, the gas station and the doctor’s office. In truth it has forced the retired investor to increase risk to keep pace with the lost income due to reduced dividends in guaranteed investments by putting money in stocks or higher risk bonds and REITs.

The investor/trader reacted to the comments from the Federal Reserve Chairman, but will it last or is it a buying opportunity for those ready to buy on the dip. Either way the markets will continue to find opportunities based on the policies of the Fed both short term and longer term. With interest rates at zero, we will need all the help we can get to keep pace with the higher cost of living.