The central bank was a big story in the U.S. last week for a couple of reasons.
First, the Fed said that it would trim its quantitative easing another $10 billion a month in February, dropping it to $65 billion from $75 billion. As you’ll recall, the Fed also tapered its bond buying by $10 billion in January, so the overall reduction now amounts to $20 billion per month.
Interestingly, the vote to taper a second time was unanimous among Federal Open Market Committee (FOMC) members, the first time since 2001 that there has been not one dissenting vote. Since this was Ben Bernanke’s last meeting as Chairman, I suspect that a going away cake was served. The unanimous vote was a nice parting gift and helps the Fed make an orderly transition to incoming Chairperson Janet Yellen.
The stock market sold off a bit after the Fed statement and additional tapering as more investors come to terms with the reality that the Fed won’t keep pumping forever. Overall, it looks at the moment as if the Fed has done a pretty good job of “pin pricking” some of the asset bubbles that its quantitative easing seemed to have created.
For example, pending home sales declined 8.7% in December, the lowest reading in over two years, and the inventory of new homes rose to five months from 4.7 in November. Still, the overall inventory of new homes remains relatively tight, which should promote further price appreciation. And we did see that in the latest data. Overall, U.S. home prices declined 0.1% in November, but after seasonal adjustments, median home prices actually rose 0.9%.
The primary reason that the Fed can tap the brake is that economic growth has definitely improved. The Commerce Department announced this week that fourth-quarter gross domestic product (GDP) grew at an annual pace of 3.2%. Business and consumer spending rose, and exports surged 11.4%. As we’ve talked about before, the domestic energy boom is helping to dramatically improve the U.S. trade balance. Through the last half of 2013, GDP grew at an annual pace of 3.7%, up from 1.8% in the first six months.
There was one fly in the ointment, which was that durable goods orders declined 4.3% in December. That was a big surprise, but severe winter weather probably had a negative impact. It will be interesting to see if the severe weather also affects the January payroll report that will be released next Friday.
So don’t worry about the market’s choppy start to the year. Going back more than a century, when stocks have fallen in January, the Dow still ended up positive for the year more than half of the time.
I do expect periods of profit-taking along the way as the QE party winds down, but fundamentally superior stocks are well-positioned to outperform and benefit from the growing economy and the flight to quality with their outstanding sales and earnings growth.