Do you remember last month when the Fed failed to tighten at the September FOMC meeting? The stock market initially rallied, but then fell for the next 7 or 8 sessions.

For all those equity investors who have been screaming bloody murder that the stock market went down because the Fed didn’t tighten last month (and there were lots), I present the following piece of evidence refuting this notion. Until last week’s unemployment report, the market was on edge about a potential Fed tightening. Even after the Federal Reserve passed on hiking rates at the FOMC September meeting, the shadow overhanging the market about an imminent hike kept investors leaning on the sell button.

Then the unemployment report was released. And it was terrible. It was so bad it removed any uncertainty about the potential of a Fed hike in the next couple of months.

So what happened to risk assets since the release of the unemployment number? The “Fed must raise rates to save the market” camp would argue that this poor economic release was the result of the Fed’s inaction, and that stocks should go down on this realization. But let’s look what actually happened:

Contrary to what these nattering naysayers believe, stocks were not going down in August and September because the Fed was behind the curve in raising rates. If that were the case, the yield curve would have been steepening and inflation expectations would have been exploding higher. Yet the exact opposite was occurring.

Risk assets were declining because the Federal Reserve’s hawkish rhetoric was tightening monetary conditions.

Since the unemployment report release, market players have determined the Federal Reserve’s willingness to tighten policy has been put off for a few months. Break even inflation levels, the yield curve and risk assets are bouncing. Some are bouncing harder than others, but on the whole, the weak economic news has resulted in risk on behaviour.

Lately I have been arguing if the Federal Reserve would simply stop erring on the hawkish side with its market guidance, we could rally. The unemployment number has given an excuse for the Federal Reserve to stop with the tightening rhetoric.

But that still leaves a question of for how long? My worry is the Federal Reserve does not understand how much they are affecting global economic monetary conditions. A week or two of market calm, and they might be right back with “zero was an emergency rate and the emergency is long past” talk.

If the Federal Reserve is keen to normalize rates, this recent rally will soon peter out. We are only moving higher on the assumption the Federal Reserve will take a breather. It might not be long before the Fed tries to put the market back on track for a rate hike sooner rather than later. Don’t forget – rate hikes are not positive for risk assets! (they might be someday when inflation is running out of control, but right now with the gargantuan amount of debt outstanding and deflation lurking at every corner, rate hikes are the kiss of death)

Thanks for reading,

Have a great week-end,

Kevin Muir

the MacroTourist