Although I think it is a remote possibility, any surprise out of today’s FOMC meeting is going to be on the hawkish side. The market is convinced that Yellen & Co. are going to stick to their $10 billion a month taper and not rock the apple cart. This is the most likely outcome, but it is by no means assured.

The Bank of England’s Mark Carney was also expected to stick to his “easy as she goes” script. According to FT’s Gavyn Davies:

Mark Carney delivered a substantial hawkish surprise to the markets in his Mansion House speech on Thursday. After appearing to be a convinced dove ever since he became BoE Governor in July 2013, he now says that the first UK interest rate rise could come “sooner than expected”, with the decision on the timing of the first rise “becoming more balanced”. Market expectations of forward short rates in 2015 immediately jumped by 20 basis points.

It is easy to dismiss this development as a response unique to the UK. There is no doubt that England (and London especially) is in the midst of a housing boom that needs to be reined in.

But at the same time, there is way too much pessimism regarding the US’ economic outlook and way too much optimism in regard to inflation staying subdued. The Taylor rule model, which quantifies an appropriate Fed Funds rate given these inputs, removes the emotion and boils down appropriate policy to a cold hard number. Rule Formula for the US</a> </div>

The rule is currently suggesting a Fed Funds rate that is almost 2%. Given that the Fed Funds are stuck at zero and the Fed is still engaging in quantitative easing which implies an effective Fed Funds rate that is actually negative, the level of accommodation is at least 200 basis points.

I expected the Fed to be slow in following the yield curve back up, but this is getting to the point where it threatens to be irresponsible.

Lots of people enjoy assigning all sorts of malicious or conspiratorial motives to the Federal Reserve board. I tend to view them more as slightly bumbling bureaucrats. I think they are all trying to do the right thing, but that their mandate almost pre-ordains them to err on the side of being too easy. However, they are a committee with rules. And they tend to follow those rules. When in doubt, they stick to CYA (cover your ass).

For a long time the rules (like the Taylor model) were indicating that Fed policy should be at or below 0%. This made programs like Quantitative Easing easy to justify. But as these rules start to dictate that policy should be returned to normal above 0% levels, it is going to exert increasing pressure on the committee to normalize policy. Don’t get me wrong – they will be slow to raise rates. But if you doubt that Fed policy follows the Taylor rule, have a look at the model versus actual policy over the last 30 years. Rule versus actual Fed Funds – 30 year chart</a> </div>

The model and the rate have diverged for periods, but over the long run, they have always come back into line.

My forecast is that the Taylor rule model will continue to march upwards, and the Fed will reluctantly (and slowly) follow along.

Which brings me back to today’s meeting. Actually raising rates is going to be hugely unpopular. My suspicion is that the Fed is loathe to rush that outcome. But there are precious Fed Governors who want to still be engaged in Quantitative Easing. The program is generally derided as simply lining Wall Street’s pockets while doing little to help Main Street. Even the bankers don’t seem to like it anymore.

Accelerating the tapering to $15 billion a month would allow the Fed to maintain some credibility in terms of being an inflation fighter, all the while, more quickly running down a program that seems to be increasingly unpopular. There is very little political cost for the Fed to accelerate the tapering.

Given that the economic models also suggest that this is the correct course, I suspect that this action is going to be weighed very carefully.

The markets have probably under estimated this outcome.

I think the odds still favour the Fed maintaining the present course with some slightly more hawkish language. But if there is going to be a surprise, it will be with a $15 billion per month taper.

Solar stocks – the next rolling bubble?

Back in April I suggested that solar stocks might be the next candidate for what I describe as a series of rolling bubbles. I tagged along with one of the smartest hedge fund managers out there with a small purchase of SUNE. chart</a> </div>

David Einhorn obviously understands the fundamental story way better than me, and I am not too proud to simply slip on board and take advantage of his hard work.

And just in case David gets this one wrong, I also joined another really smart guy, Elon Musk, with the purchase of Solar City. Chart</a> </div>

Well, as usual my timing left a lot to be desired, but my thesis seems to finally be playing out.

I am not here to argue that the fundamentals justify these rising prices. I have no clue whether in the long run solar stocks are good value or not. I just know that monetary policy is extremely easy and that the market is prone to grabbing hold of a theme and taking it way too far. I am only betting that solar stocks are the next candidate for this series of rolling bubbles.

That is why I refused to buy more of these names as they went against me. Until the market showed that the solar stocks were going to capture the public’s imagination, I had no real edge.

But I do think that the recent action shows that my theory might in fact be playing out.

Therefore, I am going to increase my bets.

The first thing I am going to do is add a little TAN – which is the solar stock ETF. chart</a> </div>

The next thing I am going to do is buy a little CSIQ – Canadian Solar. Chart</a> </div>

And finally one of my buddies who I respect suggested I have a look at this small cap that sells materials to CSIQ. It is by no means a pure play solar stock, but it might be the kind of small cap wonder that does even better in a mini solar stock bubble. CN Equity – 5N Plus chart</a> </div>

The symbol is VNP CN Equity and I am buying less of this name as its small cap nature makes this more risky.

I have been waiting for the solar stock bubble to start. I think that yesterday was the sign that I might actually be right… Now the key will be try to ignore the noise and let the market take this theme to stupid levels. If you read the post that I linked to, you will know that this is no easy feat for me. If you really want to know when you should buy solar stocks, it is probably when I decide they have gone too far too fast and sell my position…