… and, the market responds predictably.
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Yesterday, Fed Chairman Jerome Powell took a meat ax to the market.
As expected, the Fed inched interest rates up a notch — as planned, and as expected.
That’s OK … the economy need to be weaned off of near-zero interest rates.
But, despite indicators of an economic slowdown, Powell said there are still more interest rate boosts on the table for next year … count on ’em.
Pundits expected a more wiggle-roomed statement that the Fed would be watching what happens and be driven by the data.
Then, he deliver the coup de grace, saying “financial markets and the Fed’s balance sheet don’t matter.”
Au contraire, Mr. Powell.
The financial markets matter to folks holding financial assets … and the Fed’s balance sheet – a correlate to the supply of money in the economy – is a major determinant of financial markets’ strength.
Need proof?
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Let’s start by taking a stroll down memory lane ….
Over 40 years ago, an economist-wannabe co-authored a study in the Journal of Finance titled “The Supply of Money and Common Stock Prices”.
The article summarized an econometric study (think: big, hairy financial model) that demonstrated a tight link between the amount of money floating around and, on a slightly time-delayed basis, the price of stocks.
That is, when the Fed adds liquidity into the market (think: “quantitative easing”), much of money flows into the stock market – rocket-boosting stock prices.
And the opposite is true. When the Fed tightens, stock prices fall back into earth orbit.
OK, fast forward to today.
