07/29/15   Fed Paints Itself Into A Corner

Editor’s Corner

Ron Rowland

If you are like most people, you are probably more surprised by the fact the Federal Reserve concluded a two-day FOMC policy setting meeting today than by the fact it decided not to raise interest rates at this time. You have to look hard to find someone who believes the economy is growing at such a rapid pace that an interest rate hike is necessary. However, it is relatively easy to find someone who believes interest rates need to be increased for reasons other than reining in runaway economic growth.

In past decades, the primary (or only) reason to raise interest rates was to slow economic growth and its associated inflation. Many observers think that interest rates at zero are a bad thing, and they are therefore looking for new reasons for the Fed to begin the process of moving them higher. Proponents of increasing interest rates sooner, rather than later, cite the potential for long-term structural damage as a major reason. In their view, this extended easy-money regime will undoubtedly result in severe inflation, despite the fact that both the PPI and CPI are not able to measure it yet.

Even the Fed itself thinks it needs to start raising interest rates. A year or two ago, the Fed was convinced it would have happened long before the mid-point of 2015. Now, the policy-making body seems to be determined to make it happen by the end of the year, whether the step is needed or not. By forecasting its future moves, the Fed has painted itself into a corner. It now acts as if it is obligated to follow through on its own prediction, just to maintain some level of integrity.

Therein lies the trouble with making predictions. Once you go on record with a prediction, all further actions become biased. Will the eventual first step toward higher interest rates occur because the economy needs it, or because the Fed is simply following through on its prediction? According to the statisticians at CNBC, today marks the 53rd FOMC meeting in a row without any changes to interest rates. The FOMC last raised interest rates more than nine years ago in June 2006, leaving skeptics to wonder if they remember how to do it. Additionally, there are probably a number of financial reporters who have never seen or written about an actual interest rate increase.

Investor Heat Map: 7/22/15


Health Care remains at the top of the stack, but that doesn’t mean it survived the week unscathed. In fact, the Biotechnology industry was among the hardest hit. Consumer Staples, a defensive sector that often performs relatively well in weak market environments, climbed two spots and is now challenging Health Care for the lead. Consumer Discretionary held on to its third-place ranking, while the ascent of Consumer Staples pushed Financials down to fourth. Only four sectors are in the green today. Technology was able to keep its fifth place ranking, but it wasn’t able to hang on to its positive momentum. Real Estate and Utilities held up relatively well and kept their same ranking positions in the middle of the pack. The four sectors on the bottom all fell deeper into the red.


Mega-Cap and Large-Cap Growth are holding down the top two spots for a second week. Just as there are defensive sectors, there are defensive style categories too. Mega-Cap is the definitive defensive style box, as it is home to the largest blue-chip companies that investors prefer when times get tough. However, being the best on a relative basis is not the same as making a good advance. Sometimes, being at the top of a relative strength ranking is accomplished by losing less than the other categories. That is the case for Mega-Cap at this time. It lost ground this past week, and its momentum is quickly evaporating. Mega-Cap could easily find itself in the red by this time next week. That is what happened to five other style categories. Small-Cap Growth, Large-Cap Blend, Mid-Cap Growth, Small-Cap Blend, and Micro-Cap all went from green to red. Micro-Cap, the opposite extreme of Mega-Cap, dropped four spots to ninth. Small-Cap Value was hit hard, and it replaced Mid-Cap Value on the bottom.


The Eurozone is the last global category remaining in the green. However, “green” is purely a technical term in this instance, as the Eurozone’s momentum reading is barely on the plus side of zero and probably does not produce any green pixels on your monitor. Much like the style categories above, five of the global categories flipped from positive to negative momentum this week. These five consist of Japan, the US, EAFE, World Equity, and the UK. In the process, Japan and the US swapped places as did World Equity and the UK. The bottom five categories are all weaker, and there were some notable ranking shifts among them this week. As noted a week ago, the recent weakness in the Energy sector had caused Canada to drop to last place. Oil prices bounced yesterday and today, and stocks in the Energy sector have moved higher. Although it wasn’t much in the larger picture, the gains helped Canada move three places higher and out of last place. Despite the hoopla surrounding Chinese stocks, China did not move from its tenth-place spot in the rankings. Latin America is another story. Latin America has been crushed the past two weeks. Like Canada, the recent bounce in Energy allowed Latin America to move slightly higher the past two days. Unlike Canada, it hasn’t been enough to improve the short-term picture, let alone the intermediate trend.

The charts above depict both the relative strength and absolute strength of various market sectors, styles, and geographic locations on an intermediate-term basis. Each grouping is sorted (top to bottom) by relative strength. The magnitude of the displayed RSM value is a measure of absolute strength, which is our proprietary method of measuring and reporting the intermediate-term strength as an annualized value.


“It’s tough to make predictions, especially about the future.”

attributable to Neils Bohr, Yogi Berra, Mark Twain, Albert Einstein, and others


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