U.S. equities finished mixed on Friday in the wake of the eagerly awaited Jackson Hole speech by Federal Reserve Board Chair Janet Yellen.
In the end, the Dow Jones Industrial Average lost 0.3%, the S&P 500 Index shed 0.2%, the Nasdaq Composite gained 0.1% and the Russell 2000 ended the day 0.2% lower. Treasury bonds were weaker, the dollar was stronger (especially against the yen), gold was little changed and crude oil gained 0.7%.
These were her first public comments since June, when the Fed recommitted to its two quarter-point rate hike forecast for the year. Since then, uneven economic growth, soft inflation, but a nice rebound in job gains had clouded the outlook and pushed futures market expectations for the next rate hike into 2017.
They were largely as expected, with a little for everyone. She talked up recent labor market strength and said the Fed was nearing its employment and inflation targets. But she also mentioned that the institution may need to look at purchasing a wider range of assets — not just government bonds — when the next recession hits (the Bank of Japan is buying equities, for instance).
Stocks initially focused on the dovishness of the latter comment until other Fed officials talked up the hawkish aspects of her speech, resulting in some mid-day selling pressure. Specifically, Vice Chair Fischer said in an interview on CNBC that her comments were consistent with a possible September rate hike assuming the economic data remains solid.
Stepping back, few seriously believe a September hike is possible. Some Wall Street economists, such as those at Barclays Capital, are penciling it in. But this ignores the fact that the expected Q3 GDP bounce back, with the Atlanta Fed’s GDPNow tracking estimate at 3.4%, won’t be confirmed in time for the policy decision.
Moreover, the Fed has a long history of not hiking rates ahead of presidential elections. With Fed officials leaning Democratic, and market history showing strong stock market performances ahead of voting benefits the incumbent party, it’s hard to see Yellen and her cohorts potentially destabilizing stocks just weeks before the Hillary v. Trump smack down enters its final round.
No surprise then that the odds of a September rate hike dropped from 32% to 26%.
Deep in the speech, thrown out as almost a side note, was something incredible: Yellen wondered aloud whether purchasing a wider range of assets — such as equities like the Bank of Japan or corporate bonds like the European Central Bank — would be something the Fed may need to consider in the future.
Currently, such purchases are against the Fed’s charter and thus such a move would require changes to the laws governing the Fed’s action. Something Yellen acknowledged.
Yellen’s comments echo recent sentiment from her Fed colleagues that monetary policy may need to remain highly accommodative for longer-than-expected because of structural problems such as a slowdown in labor productivity.
Put more simply: The economy has lost its verve, and may need the Fed’s medicine for longer. Yellen is merely saying that now’s the time to consider adding a few more tinctures to its toolkit. If this isn’t super dovish, I don’t know what is.
Expect the market volatility to continue next week as we have the August jobs report — the last before the Fed’s next policy decision — on Friday ahead of the long Labor Day holiday weekend. Analysts at Deutsche Bank are looking for a non-farm payroll gain of 160,000 vs. the 255,000 created in July and below the three-month trailing average of 190,000.
Stocks should rise into and following the report, as the market has a strong record of rising no matter what the jobs report actually shows. Weak jobs are a positive since it means less chance of a Fed hike. Strong jobs are a positive because it shows the economy is strong.
With inflation expectations rising, and long-term bond yields pushing up, bank stocks look ready to rally here on a lift to net interest margins. Bank of America Corp (NYSE:BAC) popped out of its year-long trading range on Friday, pushing the Sept $15 BAC options straddle recommended to Edge Pro subscribers to a 21%-plus gain since recommended on Aug. 16.
Anthony Mirhaydari is founder of the Edge and Edge Pro investment advisory newsletters. A two-week and four-week free trial offer has been extended to InvestorPlace readers.
