Kass: What to Expect When We're Expecting
The consensus (and bullish view) seems to be (with what I believe market probabilities to be in parentheses):
- If the Fed delivers to the market a closed-end or traditional easing, the S&P 500 will likely be unmoved (55% probability).
Not surprisingly, I feel the market expectations (above) are too optimistic for the following reasons.
When quantitative easing was first announced at Jackson Hole a few years ago, it was largely unexpected and certainly not priced into the markets, which were collapsing going into the meeting. Asset prices -- equities and (more so) commodities (such as gold and oil) -- moved up dramatically after the Jackson Hole announcement.
Interest rates were higher then than they are now, while commodity prices were lower, as were stock prices and P/E ratios. At the time, there was a widely held view that monetary easing would improve the trajectory of domestic growth and lower unemployment. And, importantly, coincident with QE1, economic data points were starting to get better -- they were moving in this direction before quantitative easing started and continued for a while coincident with quantitative easing. Lastly, QE1 was at least at the front end of something that could go on for a lot longer.
Let's fast forward to the potential for QE3. Boy, have these guys gotten themselves over a barrel! Unlike QE1 (which was a surprise), QE3 is now widely anticipated. In fact, it is way behind schedule, as the pundits have been expecting it for a year or so. Although the market has recently advanced in anticipation of more easing, stocks never really sold off as the expectation of QE3 (a.k.a., "the Bernanke put") at the next meeting (or the one after that!) wasn't met. Last Friday was a perfect example, as, from elevated market levels (up considerably over the last few months), the market rose on a negative preannouncement at Intel (INTC) and coincident with an awful jobs report. Stocks rose because traders and investors concluded that the weak employment release heightened the likelihood of QE3.
This is the monster our Fed has created, in which we celebrate bad economic news.
Today, almost every observer now expects more easing -- and they will likely not be disappointed.