Philadelphia, Pennsylvania – (StockNewsDesk) – 10/09/2014 — Federal Reserve officials released minutes of their September meeting, revealing a much more dovish and suspicious outlook than the hawkish slant of previous meetings. In response, both stocks and bonds rallied, with the S&P 500 climbing above 35 points with a gain of 1.7 percent, following early weakness.
Doves Push Back
The biggest takeaway for market participants was the forceful defense from Charles Evan, Boston Fed Chair, and Narayana Kocherlakota, the Minneapolis Fed Chair about the economy’s continued weakness and poor inflation expectations, as reasons to uphold zero rates. There was a notable debate about the effects of the strong dollar and weakness abroad specifically in Europe and China, which would have a destructive impact on growth and inflation going forward.
This was taken as an assurance by investors and traders whom the Federal Reserve was open to adjusting its policy path, if conditions continue to worsen. In many ways, the Federal Reserve is divided with officials like Richard Plosser, Jeffrey Lacker, and Esther George calling for an immediate normalization of Fed policy; this is the hawkish wing. In recent months, their view has been dominant, and monetary policy has slightly tightened with the ending of QE scheduled for next month.
With the end of QE despite low inflation and a sputtering economy, market participants were beginning to question the resolve of the Federal Reserve in supporting the economy. These minutes were encouraging for bulls as it showed, Fed continued to have doubts about the sustainability of the recovery and risks of tightening too soon.
The crux of the matter is currently the language in the FOMC statement that says interest rates will remain low for an extensive period of time. It seemed as if this language was going to be phased out in the next meeting. However, the release of the minutes changed the nature of the debate and futures markets began pushing expectations of an interest rate hike further into the future. This caused a lift in stock prices, treasuries, and selling in the US dollar.
Stocks Surge
Stocks have been going through a rough time period with the small cap index down more than 10% in the last month. Selling has been less intense in the large cap indices such as the Dow Jones and the S&P 500. One of the catalysts for the weakness has been the notion that the Fed was committed to tightening despite pressures from a stronger dollar and overseas weakness.
At least temporarily, this concern has been lifted. Stocks rocketed higher with the release of the minutes making up for all the losses in the previous day, in which the Dow was down 277. The strong dollar hurts the economy by making exports less competitive, and hurting companies with revenue from overseas. The Fed’s sensitivity to this issue was encouraging for investors. The stronger dollar accomplishes many of the same objectives as tightening monetary policy by reducing inflation, thus the Fed’s acknowledgments of potential risks showed that it may loosen policy to offset the impact of a stronger dollar was bullish for stocks.
