Yesterday’s FOMC press release gave little to market participants with the key rate unchanged as expected and no major changes in the Fed’s language on the economy and monetary policy. Overall, the Fed is satisfied with the current growth momentum, which has stabilised, against the current policy. The key thing that happened during the press conference sparking a rally in equities and gold while tanking the USD was Fed president Powell’s remarks that the Fed was willing to adapt its strategy on its current liquidity operations which only includes buying Treasury bills.
As we talked about on yesterday’s Market Call podcast there are ongoing structural issues in the US repo market which has been argued by the respected Zoltan Pozsar, an analyst with Credit Suisse that has formerly been with the US Treasury and the Fed, could cause major issues as we get closer to year end. The Fed’s current operations are not QE as it is not buying coupons (duration) but Pozsar’s main argument is that there are too little reserves in the system and the only way to rectify this situation is for the Fed to launch proper QE (that would be QE4) buying various duration levels in the Treasury market. Powell’s comment that the Fed was willing to adapt to an adverse situation in the repo market hinting of QE4 got the rally going.
The immediate implications of QE is a weaker USD and if ECB, which has its first press conference under the new president Christine Lagarde, changes its policy mix following Riksbank in setting policy rates closer to zero, then equities should do well and especially emerging market equities. In our equity update on Monday we wrote about OECD’s global leading indicators suggesting that the global economy has entered a recovery phase following 21 months of declining growth momentum. If it holds that the economy is turning then we are entering historically the best period for equities and especially for emerging market equities.