Pressure Builds at the Fed – Aug. 1, 2014

Here’s the news of the week – and how we see it here at McAlvany Wealth Management:

Pressure Builds at the Fed

Inflection points are sometimes difficult to spot, but in this week’s market activity we may have seen one begin to form. That should concern investors – if not now, soon. As we’ve pointed out in this forum several times before, the Fed has been walking a fine line between its tapering of bond purchases and this notion of a self-sustained recovery. Yes, the Fed tapered another $10.0 billion to $25.0 billion/month in its latest meeting, but this may prove to be inconsequential in light of the fact that the U.S. economy might be in a progressive slide as we head into the late summer months – as might the global economy. And that could very well be a game changer for the Fed’s policies, inflation, and subsequently the markets as we proceed into the second half of this year.

MWM 14, 8-1 Box ScoresStock bulls most likely viewed the Fed’s tapering as untimely given the sharp decline in stocks, since it went hand in hand with a slew of economic and corporate reports that were found wanting. The ADP and U.S. jobs reports for July disappointed; both failed to build on the celebrated post-weather bounce seen in June. Pending home sales in June declined 1.1% month over month and 7.3% year over year. Incidentally, mortgage securities have underperformed in a relative sense in recent weeks, as the risks in this industry continue to increase. For those paying attention, Fannie Mae has issued a considerable amount ($8.2 billion worth) of “risk sharing” securities, which conveniently pass the default risk on to bond buyers – so much for government backing. On the corporate side, there were some companies that succeeded at “beat the number,” but the misses of Adidas, Samsung, and Exxon seemed to take precedence.

Overseas issues may have also played a role in this week’s stock rout, though arguably many of these factors were already baked in to some degree. Argentina moved grudgingly into default (blaming U.S. court decisions), as it missed an interest payment on $13.0 billion of its outstanding debt. Portugal’s Banco Espirito Santo’s shares were halted pending an investigation of the lender’s books. Lufthansa’s earnings may take a hit due to the unrest in the Ukraine. And manufacturing in the eurozone expanded at a slower pace in June, especially in Italy and Spain, where long-term interest rates were found rising – on default risks, we imagine.

The precious metals fell in sympathy with stocks Thursday, though those losses reversed on Friday following the jobs report. The worst fear among gold investors is undoubtedly that Fed tapering and an economic contraction may work in concert. There have likely been quite a few stop-loss sellers in the market trying to protect against that somewhat possible, though not very probable, outcome. Even though the Fed may take a little more time to capitulate on its ill-begotten or politicized theories about tapering, an exhaustion of sellers after a two plus-year consolidation in the precious metals serves as the best protection against further downside, and the best foundation for further upside.

Best Regards,

David Burgess
VP Investment Management
MWM LLLP

2014-09-26T17:04:15+00:00

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