Re: So, how bad could our TSP Accounts be hurt by who Doofus picks to replace Greenspan?
BEING STREET SMART
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Sy Harding
WHEN THE FED STOPS HIKING RATES! April 7, 2006.
Wall Street is assuring investors that once the Fed stops raising interest rates the stock market will finally rise smartly out of the narrow trading range that has prevailed since the rate hikes began in 2004. Meanwhile, the Fed has indicated it is watching economic numbers to determine when it may call a halt to the rate hikes.
No surprise then that investors eagerly await each new economic report, and analyze it to death in an effort to determine when the rate hikes will end. The problem is that economic reports are basically old news, revealing what home sales, inflation, the employment picture, and the like, were in January, February, or March, the latest data for some being as far back as the fourth quarter of last year.
Such reports may help determine whether the economy was still growing in January, February or March, whether inflation was rising or falling. But focusing too much on such lagging reports may also be why the Fed is usually behind the curve, continuing to raise rates for too long a time, often slowing the economy all the way into a recession.
Meanwhile, the stock market is a forward looking mechanism. It tops out when surrounding conditions are still looking great, declines well in advance of recessions, anticipates in advance when rising interest rates will put a crimp in consumer spending, when asset bubbles will burst, when stock valuations have become too high, when seasonality is becoming unfavorable.
It subsequently begins its next bull market while the economy is still in the doldrums, and the economic numbers are still looking dismal, as it looks ahead to improving conditions.
While investors focus on trying to determine when the Fed will stop raising interest rates, other factors which are probably more important to the direction of the stock market, like stock valuations, slowing corporate earnings, record consumer debt, the breaking of the real estate bubble, still rising interest rates and the like, are mostly being ignored.
Does history support the premise that the market will rise out of its flat trading range once the Fed stops raising interest rates?
History shows that the stock market does not like rising interest rates. Rising rates, which cut into corporate profits and consumer spending, have helped topple the market into some of its most severe declines, including the 2000-2002 bear market, the 1998 mini-bear, the 1990 bear market, the 1987 crash, the 1984 bear market - well, you get the idea.
History also shows that the market likes declining interest rates. But even then, an upside reversal does not always take place as soon as the Fed begins cutting rates. For instance, the Fed began cutting interest rates in January 2001 in an effort to prevent the then slowing economy from falling into recession. Not only did the stock market not respond to the upside, but the severe 2000-2002 bear market worsened, as the stock market correctly anticipated that the economy would continue to slow all the way into the 2001 recession. It was not until 21 months and eleven rate cuts later that the stock market finally bottomed, in October 2002, with the current bull market then getting underway.
So we know that rising rates are usually eventually negative for the market, while declining rates are eventually positive for the market, but that it sometimes takes quite awhile for those rate changes to have an effect.
However, the question right now is quite different. Will it be a positive for the market when the Fed merely stops raising rates?
Wall Street seems to be looking at when the Fed raised interest rates seven times in 1994 and 1995, and then stopped. The stock market almost immediately took off to the upside.
Yet in the Fed’s most recent rate-hiking cycle, its final hike took place on May 16, 2000. The Dow plunged more than 500 points over the next five days, and it was not until October, 2002, after eleven rate cuts, that the 2000-2002 bear market ended.
Also on the cautionary side, a recent study conducted by Ned Davis Research Inc., shows that since 1929, any time that the Fed had been raising interest rates and then stopped, the S&P 500 was lower six months later 71% of the time.
So, even if Wall Street or investors could determine ahead of time when the Fed will stop hiking rates, the information may be of no value. Much will depend on why the rate hikes end. If it’s because economic reports show the economy already slowed in previous months and the Fed may have gone too far with rate hikes, the stock market may have already looked ahead and anticipated a dire outcome.
A thought to ponder as the market approaches the end of its favorable seasonal period of October to May.
Sy Harding is president of Asset Management Research Corp., DeLand, FL, publisher of The Street Smart Report Online at
www.streetsmartreport.com and author of 1999’s Riding The Bear – How To Prosper In the Coming Bear Market.
