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Central banks are exciting - here's why!

Peter Switzer
21 September 2016

By Peter Switzer

In case you missed it, we’re living through crazy stock market times where bad news is good news for stocks. The Dow Jones index again was up and it coincided with disappointing news for the US housing sector.

Housing starts for August were 1.14 million (annualised) compared to a forecast of 1.19 million, which was seen as a notable miss, but I think that’s a stretch.

Of course, there is current thinking that has persisted since central banks went mad with the money supply that says for stock markets “good news is bad news! And it works vice versa!

So the slower housing sector is looked at and smarties on Wall Street say that this will hold back the Fed raising interest rates. And that’s good for stocks, so go long stocks.

If the number was a rip roaring big one for housing, and the last jobs number was a big miss on the high side rather than on the low side, then this stock market might be saying right now that the Fed will raise tomorrow and we could’ve been looking at a big sell off today.

Believe it or not, but the Fed’s impact on stocks is unbelievably huge and that’s why I argue with the bank bashers who call central banks boring. More on that in a moment.

Once again, in case you missed it, this is a huge week for central banks.

Today, the Bank of Japan comes up with its latest game plan to jumpstart the Japanese economy. It could take interest rates more negative, propose to buy more bonds, do nothing like its last effort, or it could say “we’re beat and our policy has got nothing, so you better get the Abe Government to start spending!”

Business journalists and, more importantly, financial markets, are really waiting bated breath for what the BOJ Governor Haruhiko Kuroda comes up with and it could be market-moving.

But the biggie of central bank actions comes tomorrow with the Fed and, ironically, this much-waited for decision on interest rates is tipped to be a “do nothing” one! However, when it’s made, there could be a huge reaction, especially if the US central bank surprised the market and raised.

If they did, and the odds say there’s a 15% chance of it happening, then I’d tip a big sell off. And that’s why I think the Fed will wait for December for the first rate rise of 2016. By then, the data will be clearer on the US economy, and if it remains solid, and the financial markets have not been trumped by the US election result, then the market will expect a rate rise and it will get it.

Central banks shouldn’t be political, and most aren’t, but they can’t ignore what their actions could do to markets, confidence, business as well as consumer reactions and, ultimately, the economy.

This is why I expect, along with most pundits, no change in rates tomorrow. But what’s really interesting is that the actual announcements of the Fed are less important than the 24 hours before an announcement!

The chart below shows how significant the 24 hours before a Fed announcement is:

Liberty Street Economics (out of the New York Fed), explains the chart above this way: “It shows the S&P 500 index level along with an S&P 500 index that one would have obtained when excluding from the sample returns on all 2p.m.-to-2 p.m. windows ahead of scheduled FOMC announcements. In a nutshell, the figure shows that in the sample period, the bulk of the rise in U.S. stock prices has been earned in the 24 hours preceding scheduled US monetary policy announcements.”

This is quite staggering and I still can’t quite believe its implications but it tells me that the US central bank is exciting and you ignore it at your hip-pocket peril!

(For those who want to know more about the Fed’s impact on stocks click here).

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