Well, it finally happened.
After more than two years of cheap money pumping, swelling the monetary base from $800 billion pre-recession to more than $4 trillion now, Federal Reserve officials pulled the plug on the third iteration of its long-term bond buying stimulus. The program — dubbed “QE3” by spectators — was brought to an end thanks to a steady improvement in the job market, with the unemployment rate recently falling to 5.9%.
The Fed’s policy statement was surprisingly hawkish, talking up the health of the job market and diminishing concerns about too-low inflation. Investors didn’t like that, given that the rebound out of the mid-October lows was driven in large part by hopes of continued monetary policy easing from the Fed.
In response, the Dow Jones Industrial Average lost 0.2% as it fell back below the 17,000 level. The U.S. dollar strengthened in a big way (strength in which, by the way, was mentioned as a possible risk factor for the economy in the minutes of the last Fed meeting) as gold and silver were hit. Treasury bonds weakened, pushing up yields. And crude oil broke out of its recent downtrend channel, with the U.S. Oil Fund (USO) gaining 1.3%, thanks to lower-than-expected crude inventories.
In corporate news, Facebook (FB) was hit hard by higher cost guidance while Hewlett-Packard (HPQ) announced a cool new immersive PC initiative — spearheaded by its “Sprout” device that mixes a touchscreen PC with a projector/scanner interface — as well as its intention to move into 3D printing. Hess (HES) and Anadarko (APC) moved higher on earnings, boosting the energy sector.
Back to the Fed.
The committee highlighted that “there has been a substantial improvement in the outlook for the labor market since the inception of its current asset purchase program” and that “a range of labor market indicators suggests that underutilization of labor resources is gradually diminishing.”
With QE3 now over, the focus will turn to the timing and pace of the Fed’s interest rate-hikes, which are expected to start sometime in the middle of 2015. Concerning this, the Fed maintained its “considerable time” language in its policy statement.
Paul Ashworth at Capital Economics believes this phrase — describing the length of time between the end of the bond buying and the first rate hike — could be modified at the Fed’s December policy meeting.
After smooth and easy conditions over the last two years, investors should prepare for some volatility and chop heading into 2015 as financial markets no longer enjoy the steady inflow of cheap dollars from the Fed.
It’s possible that stocks suffer a pullback here on fears that the economy will lose momentum without the Fed’s help as it did upon the end of the QE1 and QE2 programs in 2010 and 2011. Any softening in the economic data would accelerate such a response.
We’ll know more on Thursday when the government releases its initial estimate of Q3 GDP growth. Friday will bring an update on the last piece of the economic puzzle yet to turn around, wages, ahead of the midterm elections Tuesday and the October jobs report on Nov. 7.
For now, I’m recommending investors raise cash and book profits from the rebound out of the October 15 market low. Highlights include a 67% gain in Nov $94 Exxon Mobil (XOM) calls recommended to Edge Pro subscribers last Thursday as well as a 58% gain in Nov $41 calls in the iShares Emerging Markets (EEM) recommended on Friday.