Fed statement–little change

A very quick and cursory look at the just-released Fed statement - 2:15 pm ET - revealed mostly a carbon copy of January's statement. And maybe just a slight upgrade in the outlook.

The Fed said:

• the economy is expanding moderately and it expects moderate economic growth over the coming quarters.
• the unemployment rate has declined notably but going forward, it anticipates just a gradual drop
• higher oil and gasoline will have just a temporary impact on inflation before it eventually slows (added)
  • With the economy still on an uneven footing, would the majority on the Fed really acknowledge a concern about inflation? Seems unlikely as that would force their hand and it would send LT rates soaring.
• no changes in any language regarding a third round of QE

None of this is really any surprise.

The Fed may just be setting the stage for something more significant at its two-day meeting in April (March's was just a day).

Final demand, which has befuddled policymakers given the relatively upbeat nonfarm payroll numbers, may hold the key for any new round of easing.

Sterilized bond buys appears to be the most likely part if we have a new move.

Retail sales
Good news on the retail front this a.m., and the upward revisions to January were welcome. But taken together with the weakness in Nov and Dec, it's steady as she goes. Still, I'll take upbeat numbers at the margin any day.

All this suggests the consumer is feeling better moving into the new year, as higher consumer confidence translates into more spending, despite the surge in gasoline prices.

Fed opens door wider to QE3

We're not there yet but comments coming out of yesterday's Fed meeting strongly suggested that the Fed will eventually implement a new round of QE3.

None of this should come as a surprise since a majority of Fed voting members have been bemoaning the high rate of unemployment for a while.

Sure we've seen a modest pick up in growth since the summer, but progress on unemployment has been slow, and publicly, that is the Fed's reason for its focus on QE3.

Economic projections are far from rosy

1. Sluggish GDP growth. In fact, a slight dip in the GDP forecast from Nov.
2. Slow progress on unemployment.
3. Subdued inflation within the Fed’s target.

In Bernanke's opening statement of his press conference, he said the Fed is "prepared to provide further monetary accommodation if employment is not making sufficient progress towards our assessment of its maximum level, or if inflation shows signs of moving further below its mandate-consistent rate.”

So if inflation slips some, the Fed has the extra wiggle room to buy bonds. Helicopter Ben couldn't pass up that opportunity!

And he added in a follow up to a question that QE3 is an “an option that’s certainly on the table.”

Earnings less than impressive, but sun shines on stocks

Let's talk earnings first.

Major bank earnings stung by capital market pressure.  The major banks posted less-than impressive earnings – blame uncertainty in the capital markets and weaker trading revenues.
But there have been positive takeaways:

• Lending growth has started to accelerate, mimicking loan data provided by the Fed
• Credit quality is slowly improving
• Capital ratios remain solid

Earnings, Earnings, Earnings: It’s still early but just 47% of the companies of the less than 10% of the S&P 500 that has reported through Jan 18th have topped estimates, down from 70% in the previous four quarters (Wall Street Journal). And it’s been a much-reduced bar that companies have had to clear.

The earnings season is young. Let's see if we get a shot in the arm from the non-financials.
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Despite the slow start to earnings season, it's RISK ON in the market! Last year's losers, materials and financials are this year's winners, as funds rotate out of last year's winners, utilities and consumer staples.

But let's be clear, despite the massive amounts of liquidity offered by the ECB, troubles in Europe haven't gone away, and we aren't seeing the needed fiscal reforms that would put the continent on a path toward fiscal solvency. But for now the focus has returned to our shores, as the economic data have been generally upbeat.
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Turning to the data,

1-Weekly jobless claims tumble 50k to 352k. That's impressive and strongly suggests the expanding economy is forcing companies to hold onto employees.

But let's wait one more week on this volatile indicator. Yes, it's timely and suggests 2012 is off to a fast start, but quirks in January's data can sometimes dull the value of the report at this time of year.

2-Housing starts - Housing stocks caught fire late last year and yesterday's rise in home builder sentiment to less pessimistic levels (4 1/2-year high) attracted new buyers. And Dec's drop in housing starts is a bit misleading due to a huge drop in multi-family starts.

Both single-family starts and permits advanced. No wonder builder sentiment is improving.


Stay tuned.

Moody’s and Fitch frown on EU’s historic accord

Last Friday’s agreement to keep the euro zone from splintering was billed as an historic accord that would require deeper fiscal integration with the threat of sanctions if member states didn’t abide by tough budget rules.

On modest volume, stocks gained ground on Friday but credit markets were a bit more cautious.

Much like the October 27 agreement to save Greece, scrutiny and the glare of the spotlight are already giving rise to the naysayers.

Moody’s noted prior to the opening this morning, “The communiqué issued by European policymakers after the recent euro area summit offers few new measures and therefore does not change our analysis of the rising threat to the cohesion of the euro area and the further shocks to which it and the wider EU remain prone.”

Not wanting to be left out of the fun, Fitch Ratings at midday added, “The gradualist approach imposes additional economic and financial costs compared with an immediate comprehensive solution. It means the crisis will continue at varying levels of intensity throughout 2012 and probably beyond.”


Counterparty risk: Rising overnight bank deposits at the European Central Bank highlight growing fear in Europe.

Both agencies warned that downgrades remain a possibility. Stay tuned.

Stocks warm to elusive eurozone solution

Stocks finished last week in a favorable fashion amid signals from eurozone leaders that a solution, or at least some type of stop-gap measure that provides breathing room, is at hand.

The Sunday deadline was pushed back to Wednesday, but that didn’t hinder the bullish mood on the Street on Friday.

Despite the optimism that has been aided by numerous sound bites, credit markets don’t seem to be buying it. Yields on European bonds have been rising, and tension in the credit markets has yet to abate.

3-month LIBOR Rate

Source: FreeStockCharts.com

European leaders are aware of the consequences of not getting a deal done. I suspect a compromise is in the works, but will it be as far-reaching as some equity players are hoping for?

Weekly jobless claims back below 400,000

Weekly jobless claims fell 37,000 in the latest week to 391,000, the first time since early April that jobless claims dipped back below the psychologically important 400,000 level.

The unexpected decline also had a favorable impact on the 4-week moving average, which slipped 5,250 to 417,000.

Although this is one of my favorite leading indicators because of its timeliness and its read on business confidence – note, its rise above 400,000 in the spring provided an early warning signal on the impending slowdown, I’m skeptical about today’s welcome drop since there has been little else to suggest that a much-needed pick up in economic activity is at hand.

Further, Bloomberg News reported that difficulties in making seasonal adjustments may have played a role.

I’d like to wait for another round or two of data.

Fed begins two-day meeting against weak backdrop

The Fed began its two-day meeting today and will conclude tomorrow against the backdrop of a floundering economic recovery and a jobless rate north of 9%.

Most analyst believe the Fed, which pledged to hold rates low until at least mid-2013 at the August meeting, will take another step toward easing in the hopes of jump-starting employment growth.

Promising to hold rates low for another two years appears to have done very little for the economy and many believe new steps will have just a limited impact.

The Street expects the Fed to extend the length of its bond portfolio, popularly called “Operation Twist,” by swapping shorter-term debt for longer-term debt.

Theoretically that might lower longer-term rates.

But how much this is already priced into the yield curve is unknown, and long-rates are already at historic lows – a 4% 30-year fixed rate mortgage. And potential home buyers aren’t jumping at the bait.

So it stands to reason that even lower rates would have just a muted impact on the economy.

Despite expectations, correctly calling what the Fed may do can be as dicey as calling the offensive play on third and goal at the five.

Will it be a run up the middle, sweep around the end, QB rollout and pass? Maybe it’s not that tricky but it’s possible the Fed could surprise.

A full-blown QE3 – always a possibility – could be implemented, but the track record for QE2 – higher inflation and anemic growth – suggests we’d get even less bang for the buck this time around.

The Fed could cut the rate it currently pays on excess reserves (near $1.6 trillion) from 25 basis points, as it hope to encourage lending.

However, lending institutions are already forgoing higher rates on credit cards, mortgages, auto loans and business loans by earning just a paltry 25 bp!

Cutting the rate by 10, 20 or the full 25 would provide little incentive to lend when many are shying away from new debt.

Further eliminating the rate on excess reserves could make it more difficult for the Fed to manage the fed funds rate.

Unfortunately for the millions who remain jobless, the Fed has few credible options left in its arsenal.