Wednesday Look Ahead: Fed's Decision to Rule Markets
Markets hang on the Fed's every word, and already investors have been handicapping the outcome of possible changes in the Fed's statement Wednesday afternoon.
The Fed is likely to make a number of modifications, economists say. However, it is unlikely to do anything dramatic.
The Federal Open Market Committee releases its statement at 2:15 p.m. New York time, at the end of two days of meetings. Economists say the Fed could give a nod to stabilization of the economy. It may also add some heft to its comments about holding rates down, and it possibly will tweak its quantitative easing program.
"They've got a tricky job to do," said Art Hogan of Jefferies "..I think they want to cheerlead the economy a little bit, and they want to send the message that monetary policy is aggressive, until it's not."
Hogan said the stock market would probably get a lift from any message from the Fed that it will not hike interest rates any time soon, combating market speculation that it could raise rates later this year.
"I think the only thing they do is clarify what 'extended period' means," said Mark Zandi of Moody's Economy.com. The Fed has used those terms as its only guidance on how long it intends to keep rates at extreme lows. Zandi said it could try to clear up the perception in the market about what the time line is without too many specifics.
On the economy, the Fed is likely to stay cautious.
"I think we need more evidence that the hard numbers are turning around," said Joseph LaVorgna, chief economist at Deutsche Bank. "I do think we're probing a bottom. Whether this holds remains to be seen. My guess is it does. I don't know whether this quarter or fourth quarter. I think we're looking for recovery in 2010 but it'll be weak. I think the Fed has a similar view and I think it'll be reflected in the statement."
Some economists expect the Fed to tweak its quantitative easing program, which includes the purchase of Treasurys and mortgages.
"If they talk about anything at all, it will be the commercial mortgage-backed securities market. They plan to begin purchasing in that market at the end of June," said Diane Swonk, chief economist at Mesirow Financial.
She said a special challenge for the Fed is that it can only buy securities that have been rated Triple A by two agencies, and many of the CMBS have lost value.
The markets have also been looking for some type of nod from the Fed that it has a plan to exit the many programs it employed to jump start financial markets and crack the credit freeze.
Goldman Sachs chief economist Jan Hatzius, in a note, said he expects the Fed to strengthen its commitment to a low rates and adjust the quantitative easing program.
"Will they strengthen their pre-commitment to a long period of low rates? We think so, because they probably feel quite strongly that market expectations of an early exit are premature and because sending such a signal could be a very effective means of bringing down rates across the curve," he wrote.
Hatzius also points out that the Fed is likely to extend the end date for its $300 billion Treasury purchase program to the end of year.
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Art Cashin, director of floor operations at UBS, said the stock market will be challenged even ahead of the meeting because in Tuesday's lack luster trading, there was no progress made by either bulls or bears.
"You stayed in a very narrow range between support and resistance. The day told you nothing," he said.
There are May durable goods at 8:30 a.m. Wednesday and new home sales expected at 10 a.m., but the FOMC announcement looms larger.
"They've got to walk a very fine line, reassuring the bond vigilantes that a rate hike is not in the foreseeable future. (Fed Chairman Ben Bernanke) does not want to commit to a time frame like Canada and others did. So it's going to be interesting," he said.
Cashin said Bernanke could also use his testimony before the House Oversight Committee Thursday to get his message across if he thinks the market is still unclear after the Wednesday statement. Bernanke testifies on his role in the Merrill Lynch, Bank of America merger that day.
Cashin said the market will be watching that testimony carefully. "If it starts to look like they are pulling the rug out from under him, it could have a real impact on the market. You don't want him handcuffed by political considerations of survival if another bank fails," he said.
The dollar Tuesday sold off as some commodities, including oil , gained. The dollar was down 1.5 percent against the euro at near $1.40. In the Treasury market, a $40 billion offering of two-year notes was well received Tuesday, with large participation by foreign central banks and others, traders said. Another $35 billion in five-years will be auctioned Wednesday.
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