×

Reading the Fed’s Smoke Signals

Federal Reserve
AP
Federal Reserve

Fed watching is becoming a popular sport again.

When the Fed was raising rates from 2004–2006, investors were looking for signs that the increases would come to an end. Likewise when the Fed cut rates in 2007 and 2008.

Rates have remained unchanged since December of 2008, and because they are near zero, the question isn’t the direction they will move but when rates will be raised. At its meeting in March, the Fed maintained its language that rates would remain low “for an extended period.”

That said, I think it’s increasingly evident that the Fed’s exit strategy — the unwinding of fiscal stimulus policies that have been in place for some time now — is under way.

Some of the actual programs have already ended. The Fed had been supporting home buyers through its purchases of mortgage-related assets, but that stopped as of March 31, though the Fed has been clear that it could resume buying these assets if necessary.

In addition, the language in the policy statements is increasingly bullish in its descriptions of the economic recovery. For example, in the last statement, the Fed characterized the job situation as “stabilizing,” a more optimistic description than January's wording of, “The deterioration in the labor market is abating.”

In describing business activity, the Fed said, “Business spending on equipment and software has risen significantly.” That is much stronger than “appears to be picking up,” which was the wording in the February statement.

I think this is all part of a telegraphing process as the Fed continues its effort to be more transparent. The Fed’s governors know how much weight their words carry, and you can be sure they are chosen carefully. The increasingly optimistic wording will likely be followed by the decision to remove the phrase “for an extended period” while keeping rates unchanged. That would set the stage for the final step in the process, an actual rate increase.

This process will likely take some time, and most observers I talk with don’t expect rates to be raised anytime soon. When we do get to that point, the higher yields in interest-bearing accounts and bonds will likely provide some competition for equities, and we will continue to follow closely in Investor Briefthe impact on the stock market and investor sentiment.

_____________________________

_____________________________


Questions? Comments? Write toinvestoragenda@cnbc.com