Fed Move Unusual When Stocks Are Hitting Multi-Year Highs

The title used in this CNBC article can be misleading. There is nothing really “unusual” about Fed making easing moves when stock prices are high. This is due to the dual mandate of the Fed which is to keep inflation at a reasonable pace and unemployment rate low. The Fed is not and should not be influenced by stock prices. Nonetheless stock prices are a very good indication of where we stand as an economy. It can be generally assumed that high stock prices is a result of good solid fundamental economics value e.g. good manufacturing data, good GDP/consumer spending etc. Hence if stock prices are high, many people can easily assume that the economy is doing well, people are getting employed etc.

This relationship is certainly not true in today's scenario. S&P500 has reached 5 year highs, however has employment reached the same levels back then? A quick tabulation of NFP figures will tell you that the US economy has a net decrease of close to 3 million jobs since 2008 while ADP survey gives us a smaller yet still equally stunning figure at around 2.6 million. Will this be a good enough reason for the Fed to step in? That is up to you to decide. However from this disparity another question arose: Are current stock prices justified? Are they sustainable?

Cumulative NFP & ADP Headline Change in Employment Since Jan 2008 

Wall Street widely expects a new round of quantitative easing Thursday, but if the Fed were just looking at the stock market – nearing a five year high – it may not see the need.

“They haven't tended to blow out a big new program when the markets are near highs. They kind of hold off, and they save it for when they have to come to the rescue,” said Stuart Freeman, chief equity strategist at Wells Fargo Advisors.

“I would be inclined to think if they do something, they might suggest they're going to do something much smaller than they have in the past and say they'll re-evaluate it on a regular basis.”

The Fed winds down its two day meeting Thursday, with a statement at 12:30 p.m. ET. It then issues revised economic forecasts at 2 p.m. followed by a press briefing by Fed Chairman Ben Bernanke.

An exclusive CNBC survey showed that more than three-quarters of the 58 money managers, strategists and economists who responded believe the Fed will announce a new program of quantitative easing, or asset purchases, after the September meeting. Another 86 percent believe the Fed will announce that it will purchase a mix of Treasurys and mortgage-backed securities when it does launch its third QE program.

The expectations for QE3 have been running high all summer, as the stock market rose. But a dismal August jobs report last Friday turned around even some non-believers. Ironically, the CNBC survey showed a majority do not expect QE3 to help lower the unemployment rate.

Via – CNBC