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Kudlow’s Money Politic$
Larry Kudlow's daily web log of matters political and financial.
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Bernanke's Quantitative Neutrality
There’s a lot of turmoil in commodity and stock markets. Last week they both got slammed. On Monday and Tuesday they rallied back. And today they got slammed again.
The heart of this story is commodities, especially gold, silver, and oil. And the dollar.
And the heart of that story is a significant shift coming in monetary policy. Quantitative easing is going to end next month when quantitative neutrality begins. It’s a significant change by the Fed. And on a de facto basis, it represents a relative tightening.
Traders and investors are fighting like cats and dogs over the meaning of the Fed’s policy. They shouldn’t be. The handwriting is on the wall. And Bernanke’s less-accommodative stance — what I call quantitative neutrality — is bullish for the dollar, bearish for commodities, and is leading to a stock market sector rotation of the major groups, away from energy and raw materials and toward more defensive plays like health care, utilities, and consumer staples.
Now, strong profits provide a good backdrop for the change in Fed policy and the rotation shift in the stock market. Profits will cushion whatever stock corrections are out there.
And, let’s face it, with a zero interest-rate target and a negative real fed funds rate, the Fed will still be highly accommodative.
But my point is, going from quantitative easing to quantitative neutrality is a less-accommodative Fed. I think it puts a floor under the dollar and a ceiling over most commodities. And this change from the Fed is the main source of the volatility that we are witnessing.
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JasonC
05/12/11 00:17
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Mostly true. There are a few other factors however.
First, overall debt is already not moving, contrary to the inflationary brainstorm of the commodity bulls.
Second, silver specifically was in a classic bubble from August last year to the end of April, unconnected to underlying market realities. It topping out is important for sentiment, though the actual market involved is tiny (which is what let it become the speculative plaything de jour).
Third, the death of Osama and continued build in inventories pushed oil lower. Oil was bid up on geopolitical tensions in the middle east and especially the Libya war, but as speculation, not any real shortage. Those high prices are crushing demand. The price can't stay at such levels indefinitely, and Osama was the trigger to sell it.
Fourth, the euro is dropping against the dollar due to renewed financial pressure on the peripheral countries, and would have caused a dollar reversal regardless. The dollar was oversold vs the euro at 1.50 and will likely retrace to 1.35 or so on the renewed financial weakness over there.
The 10 year is telling us there is no high inflation now or in immediate prospect.
The bond market and with it the Fed had it right, the commodity markets had it wrong. They are correcting to the view of the bond market.
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