When "Good News" = "Bad News"

Once upon a time, the US stock market was a good indicator of how well the economy was doing. It was a simpler time, when strong corporate earnings and positive job growth drove equity prices higher. Back then, equity prices were based on something referred to as "fundamentals" whereby analysts would look closely at a company's revenues and assets (among others) in order to determine a fair price for a security. Some of these arcane practices are still in use, but for the most part, they're only used to test a new banker's technical abilities.

Now, we live in a world of QE, where every Bloomberg reporter has to qualify good economic news.

U.S. stocks fell, with the Dow Jones Industrial Average retreating from a record, as corporate earnings and an improving economy fueled speculation the Federal Reserve will reduce stimulus next month.

It should come as no surprise that "taper risk" - noted in the above quote - is what's primarily driving equity prices. However, the Bloomberg piece goes into more details about what's coming.

quote]“The jobs report Friday, that’s really what changed the idea that we could have a December taper, and ever since then you’ve had more and more comments coming out of the Fed that perhaps it is on the table,” James Paulsen, the Minneapolis-based chief investment strategist at Wells Capital Management, which oversees about $340 billion, said in a phone interview. “Last night it was Fisher and now Lockhart. What he came out and said today isn’t earth-shattering but it does add to the momentum to the idea.”[/quote]

It's to be expected that Richard Fisher, one of the more hawkish Fed presidents, would be pushing taper, but Dennis Lockhart, at least according to Reuters, can hardly be described as a hawk, suggesting that his comments should carry a bit more weight.

But there is also a sense in which these tools are substitutes. By substitutes I mean that guidance pointing to a sustained low policy rate and asset purchases are discrete tools that can be deployed independently or in varying combinations. They can be thought of as a particular policy tool mix chosen to fit the circumstances at this particular phase of the recovery. In my view, the use of these two tools has been effective in combination over the last many months. Both have provided stimulus. I think of asset purchases as supplemental stimulus on top of low short-term interest rates—current and prospective...

I expect things to pick up in 2014, but it's possible the economy will stay on its current track and we'll see no acceleration. The right monetary policy for these circumstances is continued strong stimulus. That is not to say, however, that the mix of policy tools needs to or will stay the same.

With a centrist/dovish Fed president suggesting that, at the very least, that the stimulus provided by the Fed should be done with a different mix of tools, it's hard to conclude that he's not advocating for a change in asset purchases. However, there are several different factors that come into play, the primary one being the nomination of Janet Yellen. Economists, according to Bloomberg, seem to be concluding that despite Yellen's dovishness, taper is still coming in the near future.

Economists forecast the central bank will delay tapering asset purchases until the March 18-19 meeting. Policy makers will probably pare the monthly pace of bond buying to $70 billion at that time, according to the median of 32 estimates in a Bloomberg survey Nov. 8. The group next meets Dec. 17-18.

If this past summer is any indication of how taper will play out, it doesn't look good in the short term. But, on the plus side, there's that small possibility that once the economy is weaned off the opiate-esque QE, perhaps those "fundamentals" we all used to know could, once again, become fashionable and maybe even useful! If that should ever happen, let me be the first to say, I'm so sorry, Twitter.