Monday, March 31, 2014

Paradox of Uncertainty and Fed "Politics"

Janet Yellen, in her first public speech since becoming the Fed Chair, today expressed concern about the hardships of the unemployed and under-employed, and said the U.S. economy remains "considerably short" of the Fed's goals of maximum sustainable employment and stable inflation at 2 percent.

The "scars from the Great Recession remain, and reaching our goals will take time," she told about 1,100 people gathered at a downtown convention center in Chicago. "The recovery still feels like a recession to many Americans, and it also looks that way in some economic statistics."

One must ask the question, If the 'recovery still feels like a recession' to many, then why are people bidding stock prices upward? And, how much longer can that upward trend continue?

These are unanswered questions.

On thing appears to be certain. The first Liberal Democrat to be Fed Chairman in many years sounds quite political and seems to be willing to spend considerable public resources to lower unemployment levels beyond what many feel is prudent, even at the risk of higher than desired inflation. Obama himself probably could have given a similar speech. No mention of the devastating effect that low interest rates have on retirees who need fixed income from their savings.

The paradox of the current market is that many speculators feel the Fed is wrong. The stock market speculators are betting that the economy is improving much faster than the Fed believes.  

Whichever of the two are correct, it appears that we are likely to see a steeper yield curve with rising long term rates.  This would, in fact, indicate an improving economy, but also a harbinger of inflation and a stock market correction in response to increased buying of fixed income investments. 

The speculators aim to ride the market up and get out before it drops. A significant number of them will probably guess wrong and lose money.

Times like these dictate a bit of caution.