SCOREBOARD: Fed fortitude

The US Fed kept its settings on hold as expected, but QE3 at some stage in 2012 is still the best bet.

That the Fed didn’t print again was expected, and of course the Fed funds rate was left at 0.25 per cent. Overall, the statement following the release wasn’t too bad – I was expecting something more dovish – and the Fed suggested that the economy had "been expanding moderately".

In fact, here is what the Fed said in full, well on the economy at least: "Labour market conditions have improved in recent months; the unemployment rate has declined but remains elevated. Household spending and business fixed investment have continued to advance. Despite some signs of improvement, the housing sector remains depressed. Inflation has picked up somewhat, mainly reflecting higher prices of crude oil and gasoline. However, longer-term inflation expectations have remained stable.”

The main criticism I have with that statement is that is ignores the rapid rebound in consumer spending that we’ve seen. Having said that though, they don’t downplay the improvements in the economy, especially the labour market, as much as I thought they would. This is a very positive development. Other than that and on the inflation front, regular readers know I disagree with the Fed’s assessment. I think inflation has accelerated rapidly, the pace of which has slowed more recently, but will pick up again as growth in the US and global economies accelerate.

On the outlook, the Fed continues to expect moderate growth and then a gradual pick-up. Specifically, growth is expected to range between 2.4 per cent and 2.9 per cent this year, which is an upgrade from the January projection of 2.2 per cent to 2.7 per cent. In 2013, the Fed reckons growth will be 2.7 per cent to 3.1 per cent (not much of a change from January). The unemployment rate is now forecast to be between 7.8 per cent and 8 per cent (it was previously between 8.2 per cent and 8.5 per cent) and core inflation between 1.8 per cent and 2 per cent (from 1.5 to 1.8 per cent previously).

Despite these upgrades you’ve still got 11 of the Fed participants who want lower rates till at least 2014 – four think the first withdrawal of stimulus should be in 2015. On the other side you have three who think rates should be tightened this year and three in 2013. The risks then are that further stimulus will come and indeed in the press release following the decision out it came. "We remain prepared to do more as needed to make sure this recovery continues," the Fed said. QE3 at some stage in 2012 is still the best assumption then.

Now this Fed action really only added fuel to a rally that had developed in the European session and extended into the US open. Solid corporate earnings being the driver. Apple for instance reported that earnings basically doubled – up 94 per cent, which is the strongest growth in three years. US corporate earnings have been pretty good this season and with 80 per cent of firms having reported, so far we’ve seen earnings growth of 11 per cent, which is far in excess of the 0.6 per cent that was expected. So the S&P500, having shot up at the open, finished 1.4 per cent higher (1390) with tech, basic materials and consumer services the key outperformers. The Dow was up 0.7 per cent (13090), the Nasdaq 2.3 per cent (3029) while the Aussie SPI was 0.4 per cent higher (4407).

That’s pretty much where all the action was cause in the fixed income space there was nothing – US Treasuries did little and the 10-year yield was less than one basis point higher to 1.98 per cent, the 5-year yield in turn was about one basis point lower at 0.8395 per cent,while the 2-year was little changed at 0.265 per cent. Aussie futures were little changed also, with the 3s at 96.94 and the 10s at 96.32.

Similarly, in the forex space, the Australian dollar is about 40 pips higher to 1.0352, the euro is 15 pips or so higher at 1.3222, Sterling is then 30 pips higher (than at 1630 AEST) to 1.6166, which is a fairly remarkable rebound following data that showed the economy was again in technical recession. GDP data out last night showed growth quarter growth of -0.2 per cent after a 0.3 per cent fall in the fourth quarter. The pound dutifully fell about 80 pips soon after, but retraced all of that in subsequent trading.

That brings us to commodities. Gold had a strange session and plummeted literally just before the FOMC announcement. Weird, for sure. At that point, it then hit a low of $1626, but then rebounded, putting on almost $20 to close little changed from 1630 AEST at $1633. Copper was then up 15 or so while WTI rose 0.5 per cent ($104) and Brent was up 0.8 per cent to $119.

That’s the key price action. Data and news flow otherwise showed durable goods in the US falling 4.2 per cent in March after a 1.9 per cent gain. Core orders fell a more modest 0.8 per cent ( 1 per cent expected) but the February numbers were revised up from a gain of 1.2 per cent to 2.8 per cent. Then the RBNZ kept the cash rate at 2.5 per cent and will probably keep rates on hold for some time.

Data today includes South Korean GDP and then tonight, keep an eye out for German CPI and US jobless claims.

Adam Carr is a leading market economist. See Business Spectator's glossary for definitions of technical terms used in SCOREBOARD articles.

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