Markets threw another little ‘taper’ tantrum yesterday.
The Federal Reserve released the minutes from its latest meeting on monetary policy last night. You can often read what you like into these minutes, particularly when the outlook is as foggy as it is now.
Broadly speaking, it seems that most Fed officials are happy with the idea of cutting back – or ‘tapering’ – quantitative easing (QE) this year. They’re not sure about the exact timing, or by how much.
But at some point in 2013, the Fed will stop printing quite as much money to pump into the US bond market.
US markets fell. Emerging-market currencies got hammered.
But I’m starting to think that this is all a major over-reaction – and a potentially very attractive buying opportunity.
The market and the Fed are having trouble understanding each other
What’s really bugging markets right now is that they can’t work out what it is they’re scared of. Communication between the markets and the Fed have broken down somewhat.
If investors were clear that the Fed was going to reduce QE by a specific amount, on a specific date, they could price it in pretty quickly. It’s the not knowing that’s making them jittery.
But there are a few points about the ‘taper’ that they don’t seem to be quite getting to grips with.
For a start, it’s worth emphasising that there is no real economic pressure on the Fed to start tapering. In Britain, Mark Carney looks increasingly to be between a rock and a hard place. Growth is fragile, but inflation is high and employment surprisingly sturdy. It’s little wonder the market doesn’t believe he’ll be able to hold rates down for as long as he wishes he could.
But the US is different. Employment is picking up, but unemployment remains quite high. The economy is doing pretty well if you compare the US to most other nations, but it’s not out of the woods yet. And inflation isn’t particularly high – consumer price inflation stands at 2%. (You may well be sceptical about this, but it’s the official measure that counts for these purposes.)
So, as David Fuller notes on Fullermoney.com, if the Fed does start tapering in September, then it’s likely for political rather than economic reasons. And the politics are tricky.
You can see that Barack Obama would like to leave office, with the QE tap turned off and interest rates heading back to normal – that way he can say he presided over a crash and a recovery. Ben Bernanke would probably like to be able to say the same thing.
However, the point is, if tapering begins, and it does cause a horrible over-reaction on the part of markets, it’s still quite possible for the Fed to throw things into reverse.
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It’s time to go bargain hunting
But in any case, I think this is going to be a classic ‘sell the rumour, buy the news’ situation. Think about it. The Fed is currently sticking $85bn a month into the bond market in one form or another. If it trims that back to say, $75bn, from September, then how much difference is that really going to make?
Bond yields have already corrected quite a bit higher. Enough to price in $10bn less a month of QE? Probably. In fact, if the Fed had just sold this to the market as ‘QE4′ – “QE3 is ending, but from then, QE4 will involve printing $75bn a month until things get better” – I’m not sure there’d have been as much upheaval.
The point is, there’s a huge difference between slowing the pace of money printing, and actively raising interest rates. This isn’t tightening monetary policy. It’s just a slowdown in the rate at which the Fed is loosening policy.
Markets will spend a lot of time between now and the September meeting jumping at their own shadows. But when the big announcement comes, I think investors will wake up and wonder what all the fuss was about. And that will mean a market rally.
So what should you be looking to buy? US stocks have taken a few knocks, but they still look expensive. The stocks that have been hit hardest by the fear of the taper are all in the emerging markets. So I think that’s the place to go looking for bargains right now.
In this week’s issue of MoneyWeek magazine, out tomorrow, I take a look at Brazil, and my colleague David C Stevenson looks at the best bets in emerging Asia. We’re looking at funds more than individual stocks, so it’s all nice and convenient to invest in. If you’re not already a subscriber, you can get your first three issues free here.
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