Kristina Hooper, CFP, CAIA, CIMA, ChFC, is US head of investment and client strategies 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.
Volatility may be heading north due to a string of surprises, but the US economy is still moving in the right direction.
In the wake of the Fed’s shocking decision not to taper its bond-buying program, some investors may be concerned that the economy is deteriorating. However, recent data show continued improvement in economic conditions, particularly in manufacturing and employment. It seems the Fed’s decision was more preventative in nature, intended to avoid derailing the housing recovery and to offset a drag on the economy created by the possibility of a government shutdown.
At first, the Fed’s shocking announcement last week was met with enthusiasm. Indeed, stocks rallied and Treasury yields fell in response to its decision to forego tapering QE. But the rally didn’t last, with stocks giving back some gains later in the week. It seems that investors are still digesting the news. After initially cheering the surprise decision, investors may now be wondering why the Fed chose not to taper at all—and they’re getting nervous about it.
However, in the past few days, we’ve seen some surprisingly positive economic data that should ease those fears. In fact, in the two days following the Fed’s startling announcement, we saw three pieces of economic data that indicate the economy is still growing:
Manufacturing is rebounding.
The Philadelphia Fed Survey, a measure of manufacturing activity, came in at 22.3 for September, dramatically above expectations and the August reading. In fact, it marked the highest monthly growth rate in two-and-a-half years. The survey showed a big increase in new orders as well as demand for employment. There was also a dip in inventories, a slowdown in delivery times and increases in pricing—all consistent with the rise in overall manufacturing activity.
Initial jobless claims are down.
For the week ended Sept.14, first-time claims came in at 309,000, beating expectations. Keep in mind that just a year ago, claims were at 380,000.
Leading indicators point to progress.
The August Index of Leading Economic Indicators rose 0.7%, above expectations and July’s revised increase of 0.5%. In particular, there were advances in manufacturing orders and the factory workweek. Unemployment claims showed significant improvement. And readings on interest rates and credit activity were also encouraging.
To be clear, we expect sub-par growth in the United States during the deleveraging process, but these economic indicators signal that we’re moving in the right direction. So why did the Fed decide not to taper, even just a little bit? Well, the Fed had its own surprise this summer. The “tightening of financial conditions”—the rise in long-term yields—that Fed Chairman Ben Bernanke referred to last week apparently was not anticipated by the FOMC. The Fed didn’t expect Bernanke’s taper talk to drive up yields nearly as much as they did. It’s likely that the Fed was particularly concerned about the rise in mortgage rates, the resulting drop in mortgage applications and the threat to the housing recovery and, ultimately, the consumer. And, in the few days since the Fed’s announcement, we’ve already seen a loosening of those financial conditions.
Further, the Fed is fearful of another possible surprise—a Beltway bombshell. In its announcement last week, the Fed cited concerns about potential “fiscal headwinds.” It seems increasingly possible that the government could shut down because our legislators can’t come to an agreement on continuing to fund the government. The Fed may not be able to convince Congress to compromise, but it can keep the easy money flowing, which it has done.
In thinking about all these surprises, I’m reminded of a quote from actress Mae West: “Those who are easily shocked should be shocked more often.” While the market may not shock easily, we should be prepared for more volatility, not less, as we head into the fall. But volatility shouldn’t scare us away from moving out on the risk curve. Rather, it should encourage us to prepare for it.
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