Kristina Hooper, US investment strategist and head of US Capital Markets Research & Strategy for Allianz Global Investors. She has a B.A. from Wellesley College, a J.D. from Pace Law and an M.B.A. in finance from NYU, where she was a teaching fellow in macroeconomics.
In today’s financial markets, good surprises don’t always bring everyone cheer.
Congressional leaders last week announced a two-year budget deal designed to stave off another government shutdown and cut expenses more thoughtfully—and less severely—than what was mandated through sequestration. The deal, while criticized by the extreme wings of each party, was well-received by the American public—but not by investors. That’s because there’s an assumption that the deal substantially increases the likelihood of a “jingle bell taper.”
However, there are some key takeaways for investors to consider on the D.C. debt deal:
A December taper is not necessarily in the offing.
Yes, there will be less “fiscal drag” on the economy—something the FOMC has worried about and clearly factored into its past decisions on whether or not to taper. However, that doesn’t mean December is the most likely start for tapering. That’s because the Fed has other considerations. Keep in mind that last week we saw the November Producer Price Index, which provided another anemic reading on wholesale prices. This may prompt the Fed to pay more attention to deflation than the impact of continued quantitative easing, especially if the weaker inflation trend is confirmed by Tuesday’s CPI.
Consumer sentiment will likely be the biggest beneficiary.
Consumer confidence took the biggest hit from the government shutdown, so it makes sense that a resolution to prevent another shutdown in the next two years would give it the biggest boost. The Bloomberg Consumer Comfort Index released last Thursday provided an early indication of a budget-driven improvement to sentiment, hitting its highest level since early October. The latest rise in confidence is a continuation of the substantial strides made since early November, as consumers began to exhale after the shutdown.
Don’t expect business sentiment to benefit as much.
While business leaders and owners are excited about the deal because it shows that our government can finally work together and reach an agreement, it doesn’t alleviate all of their concerns right now –namely the Affordable Care Act. For example, last week’s NFIB Small Business Optimism Index suggests that small-business owners are growing concerned about what the Affordable Care Act might mean for labor costs, specifically the cost and availability of insurance, which rose three percentage points after an extended period of remaining virtually flat.
This deal does not preclude another battle over the debt ceiling in the coming months.
The deal struck in October allows the United States to keep borrowing beyond the debt limit through Feb. 7, 2014. After that deadline, the US Treasury can use “extraordinary measures” to keep funding the government—but that’s expected to run out some time in the spring. Clearly, a debate over the debt ceiling has the potential to hurt confidence and roil markets.
No matter when the Fed tapers, central banks will remain extremely accommodative.
Investors must recognize that tapering is not an “if” but a “when.” At the same time, it’s not a sign that the Fed is taking the punch bowl away. We believe monetary policy is going to remain very accommodative for an extended period. (Read our 2014 outlook: “Central Banks to Stay Looser for Longer
”) No matter when tapering occurs, expect the Fed to remain behind the curve in terms of supporting US economic growth.
The Upshot is available as a subscription for financial professionals only. New issues will be delivered via email every Monday. Your email address must be in our records for your subscription to take effect.