The Weekly Rap! “A lesson in Economics 101 Revisited.” Friday Sept 19th, 2013

The National Debt is currently: $16,945,767,524,687.00

I’ve titled today’s commentary/rant “A lesson in Economics 101 Revisited.”  I’m going to deviate from the usual summary of the week’s economic indices because well, there really isn’t that much change, and this weeks Fed meeting and their subsequent announcement really has me at a quandary.

The Feds feeding the Market with cash is the equivalent to giving an addict Crack.  It will appease them and make them feel better about the current situation, but eventually the supply will have to be cut off and the addict will come crashing down.  This is why the markets are reacting to the Feds decisions rather than economic news.  Stocks “normally” rise when the economic news is good because growth means more profits.  But lately it’s been the opposite.  Stocks have been reacting negatively to “good” news because it could mean the Fed will cut off the “supply.”

Ok, here is the usual numbers:  The Dow last traded at 15,526.  The S&P 500 is trading at 1,713.  Gold is trading at $1,330 an ounce, while oil futures at $104.46 a barrel.  Gas prices, (Regular in El Dorado Hills, Costco, AM/PM), are at $3.79/Gal.

Bond prices soared this week following the Fed Gods meeting. Yields on 10-year Treasury notes, which move inversely to prices, last traded at 2.72%.  30-year Treasury Bond yields last traded at 3.75%.  Rates on 30-year fixed-rate conventional mortgages are at 4.5% this week. MBS yields are interest rates at which banks sell their loans into Fannie Mae and Freddie Mac bond programs. Rising yields mean higher consumer-mortgage rates.

Well the moment arrived.  After a months-long buildup, the Fed Gods announced that they decided against scaling back their controversial bond-buying program.  By a 9-to-1 vote, the Fed chose to keep buying $85 billion a month in debt and said it would wait for more evidence of economic progress.  Will investors remain calm?  Can the economy handle higher interest rates?   What happens to the program under a new Fed Chairman, or Chairwoman? Read text of FOMC statement.  For details Read on…

The no move by the Fed had markets reacting violently. The Dow rose 93 points, or 0.6%, to 15624, a sharp reversal after being down about 40 points minutes before the Fed announcement was released. The S&P 500 jumped 0.8% to 1717, a fresh intraday record high.  The benchmark 10-year Treasury yield fell to 2.771% after sitting at 2.867% before the announcement hit the wires.  Precious metals are spiking on the news with gold rising 2.9% to $1,346.80, while silver also added about 3% to $22.41.

Fiscal fears: the Fed cited restraint from fiscal policy in two places, a clear reference to the coming fight in Congress about averting a shutdown and raising the federal borrowing limit. AGAIN!  The new language shows the Fed “taking into account the extent of federal fiscal retrenchment.”  In other words, it depends on what Congress does in the way of balancing the budget (deficit spending and raising the national debt) vs. spending cuts.  Because our politicians couldn’t agree on how to do this we had mandatory cuts (sequester) put into place which very well could be a reason for the pull back in the economy.

Economic conditions: the Fed is also clear that it wants to see more improvement in the economy before it starts pulling back.  That helps address the inevitable question it would have faced about why it’s pulling back if the economy is still struggling. In a press conference, Fed Chairman Ben Bernanke said the bank might still scale back its purchases before the end of the year, but it will depend on whether growth and the pace of hiring show greater strength.  “We could begin later this year, but even if we do that, the subsequent steps will be dependent on continued progress in the economy,” Bernanke said. “So we are tied to the data. We don’t have a fixed calendar schedule.”

The Fed has been trying to get that message across for some time, to get markets to respond to economic data rather than hanging on every word from the central bank.  But we still don’t know for sure the Fed’s reaction function; that is, understanding what will trigger the Fed to taper actually allows investors to respond to economic conditions.

Speaking of the economy and growth; although the Fed cut its U.S. growth forecast for 2013 for a third time, the bank expects the economy to accelerate in 2014 and 2015.  But I haven’t seen anything yet on how they perceive where the growth in the economy to be coming from.  In other words what plan do they have or see to get growth (GDP) back to a level (4.00% to 6.5% minimum), which is what it will take on a consistent basis for employment to pick up and the unemployment rate to come down.  We have been in a 2.00% growth pattern for the last few years (and the stock market has doubled in this time, but that’s a different story).  I just don’t see anything on the immediate horizon that’s going to get us the growth we’ll need to make the Fed stop its aggressive policy. The bottom line is that unemployment is too high and progress or growth is too slow.

Continued support, but a warning: the Fed reiterated that “asset purchases are not on a preset course” and future decisions will depend on the Fed’s “economic outlook as well as its assessment of the likely efficacy and costs of such purchases.”  Let’s look at this for a moment: The Fed has to be assessing the “cost” of their purchases and wondering just how they can get out of the corner they’ve backed themselves into.  That “corner” is that markets (both stock and Bond) have been trading based on the Fed adding 85 Billion dollars into the economy each month.  So what happens if they stop and there’s nothing positive in the economy to pick up the slack?  The Markets correct.  That’s what happens.

America’s economy has not shrunk since Q2 of 2009.  Yet, if the Congressional Budget Office’s estimates of just 1.4% real GDP growth this year prove true, America will have experienced its worst four consecutive growth years of GDP in the Bureau of Economic Analysis’ data going back to 1930.  Even if 2008 (-0.3%) and 2009’s (-3.1%) negative annual GDP percentages are dropped (something undone for the other periods) and only the 2010-13 period is averaged, the result is just 1.95%, still over a full percentage point below the previous decade’s.  During the time frame when the Fed started purchasing bonds Nov 2008, the Dow (stocks) have gone from 8,032 to 15,709 (Wednesday).  That’s an increase of 95.5%, all while the economy has failed to grow above 2%.  So what does that tell you???

If you know anyone who can benefit from my services, please call me.  My greatest goal is to see clients and friends happy.  I guess that’s why I love providing mortgage financing.  It’s an immediate gratification when you can help someone purchase a home, or lower their payment on their existing home.

Please visit my website at: http://bill.bartok.stanfordloans.com/agents/Blog

Sincerely,

Bill Bartok

Mortgage Advisor

NMLS# 445991

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