The Fed's Conflicted Message
All eyes were on the Fed yesterday as Ben Bernanke gave the first ever press conference by a Fed Chief following an FOMC meeting. And I have to say that Bernanke was remarkably candid as he was peppered with questions about inflation, quantitative easing and interest rates.
Bernanke did a verbal tango that could put him on Dancing with the Stars. Yes, he pumped the system with boatloads of cash in a Treasury-buying spree known as QE2. But he also admitted yesterday that such stimulus does carry inflation risks, and those risks may not offset the potential gains in employment.
Bernanke says he believes commodity inflation is temporary, but that the Fed can't be sure: “Ultimately, if -- if inflation persists or if inflation expectations begin to move, then there’s no substitute for action,” Bernanke said. “We would have to respond.”
****The Fed renewed its pledge to keep interest rates low, provided that inflation doesn't accelerate. And he went so far as to put a timeline on it. It could be three more FOMC meetings before the language changes about interest rates.
That statement lit a fire under commodity prices yesterday afternoon, and sent the U.S. dollar down to 3-year lows.
Gold and silver prices are up this morning, but oil is down slightly as the Fed lowered its growth expectations for 2011.
And let's keep a sharp eye on the greenback. Slower growth could push money into bonds and lift the dollar from 3-year lows. We took a look at the U.S. Dollar Index chart yesterday. While it's difficult to nail down a specific macro catalyst for the dollar, currencies are good about observing technical support and resistance levels.
*****While Bernanke's candid talk about inflation was interesting, we can't help but wonder where the commitment to a stronger dollar that Treasury Secretary Geithner reiterated is.
Bernanke's timeline for interest rate changes is an obvious indication to investors that neither the Fed nor the Treasury is going to support the dollar for some time. It's a green light for investors to continue the "risk on" trade.
It seems inevitable that inflation, especially in the commodity space, will continue until the Fed is committed to stopping it. And we have little choice but to assume that's part of the plan.
*****The only real upside from Bernanke's press conference is that it will not extend QE2. And while Bernanke said the economy is strong enough to press on without additional stimulus, even that statement is conflicted. Bernanke also said further stimulus carried inflationary risks.
So which is it? Is the economy strong? Or is inflation a risk?
We may find a hint in the fact that, while the Fed isn't continuing QE2 per se, it will continue to re-invest funds from maturing Treasury bonds and mortgage-backed securities into new Treasury bond issues.
No matter how you slice it, that's still stimulus. Sure, it's less than QE2 by around $70 billion a month, but it is stimulus nonetheless. We must conclude that Bernanke is just paying lip-service to inflation and that his focus remains on stimulating the economy.
*****The problem here is that the Fed sets the market up for a big fall. When the Fed finally chooses to target inflation and raise interest rates, the decline for commodity prices and stocks will likely be in direct proportion to the trajectory of the rally. It would seem that there's no easy way out, no way to manage an orderly return to "normal" pricing.
Daily Profit readers know that I am not a perma-bear. I am not in the camp that believes we are witnessing the end of America, not even close. I would much rather engage in a frank discussion of the risks and opportunities that are always present.
You'll find that the premium subscription advisory services available from Wyatt Investment Research are doing very well with inflation-sensitive investments in silver and gold stocks, oil stocks and agriculture stocks. We are dong very well with technology and emerging market stocks as well.
But for investors who'd rather not wrestle with the day-to-day gyrations of the stock market and the uncertainty created by inflation and the Fed, investing for the dividend income you can receive is good alternative. After all, 70% of stock market gains over the last 100 years came from dividends.
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