Market Commentary for the week of September 12, 2016

Room to maneuver
The stock markets have been "range-bound" for several months, and this has led to an emotional and fundamental impasse as we head into the final quarter of the year.  On the one hand, investors have greatly benefitted from a rather serene anecdotal environment in which business and personal numbers are "better" than before.  On the other side of the coin, however, there is an undercurrent of worry about when the other shoe is likely to drop and what impact that might have on the sustainability of the current, albeit modest, bull trend.

Chief amongst those latter concerns is whether the US Federal Reserve (the Fed) is actually in front of  or behind  in examining the totality of economic data.  Chicken or egg questions very rarely produce conclusive or acceptable answers.

In its zest to quell negative sentiment, interpretation, and outcome following the credit collapse in 2008, the Fed has worked zealously to bring both the magnitude and directional trend of interest rates lower.  So much so, in fact, that the US sits on the precipice of a place, both real and perceived, of low to negative interest rates  similar to other moribund global economies such as Japan and Italy.  Curiously, unlike the condition in those other nations, the data indicates that the US economy is not  stagnating, nor that the directional trend of improvement is abating.

While there is no argument that GDP numbers are less than enviable, a case can be made that the Fed forsook its golden opportunity

post-recession to raise interest rates when doing so might have averted a stock market bubble like the one we have now, created an alternative investment scenario in bonds, raised personal savings rates, and might have given them more breathing room in the future were we to encounter any obstacles like the kind many envision might happen in the future.  As things stand now, the Fed may have rendered its own authority moot because they no longer have the ability to thwart recession trends by lowering interest rates any further.  And they may have lost any legitimate reason to raise rates while the economic data continues to be contradictory.

If they do indeed raise rates this month, they will be doing so upon the presumption of a pickup in consumer spending because of improvements in employment and wage numbers...a very shallow sampling of the whole picture.  One would need to see an expansion of business spending  and inventory growth  to corroborate what these early trends might be indicating.  Thus far, that hasn't happened and is unlikely to transform in the next few months.

Method versus emotion

One of the pitfalls quantitative analysts always have to wrestle with is how much does data and methodology alone rule our decision-making to the exclusion of anecdotal observation and subjective interpretation?

Using methodology only does not sufficiently answer the queries to which we seek responses.  There is no "black box" that can efficiently and adequately process all market information and devise the right strategies all the time for everybody.  I would argue that there must be an additional overlay of observational and subjective override that enhances the equation.  Therefore, the effect we as analysts and portfolio managers seek should be to determine “the most likely" outcome from all our analysis, rather than an absolute delineation of all possible scenarios expressed as one integer.

Using this framework, it is my opinion that the Fed relied too heavily upon mechanics and quotients to engineer its current stance on interest rates, and not enough upon good old-fashioned kitchen table anecdotal experiences.  Without being more provocative about finding another strategy or opportunity they may literally have painted themselves into a corner regarding their next move or their outlook for the US economy.

So now the markets await where the Fed might go and what they might do either in September or later to address the future of US monetary policy and its impact upon economic momentum.  Right now, the Fed's best hope is that the markets not  implode and that the data continues to improve.

All of these Fed maneuvers and posturing have taken almost a decade to unfold.  Going forward, it might take just as long to remediate the predicament that the Fed finds itself in as an inert and ineffective policy board.  In whatever ways the world might change in the next decade, the Fed seems now only to be passively along for the ride and only marginally a part of the conversation.

The markets, on the other hand, respond to a different pulse beat altogether...one which radiates from an amalgam of time, trends, demographics, and hope.  I would put less pressure on the Fed to influence market direction than I would upon the never-ending kaleidoscope of human need, capital formation, and moral persuasiveness.