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Morning Cup of Jo: Reacting to the Fed


The key now is to see if the markets continue on yesterday's action.


"News is the first rough draft of history." -- Philip L. Graham

Market Comment

In last week's 'Jo' and "Week in review" we talked about Bernanke's seemingly hawkish comments on the PPI data and its effect on the markets. Today we'll continue the discussion and briefly cover the chairman's first FOMC meeting.

The FOMC unanimously voted to boost interest rates another 25 basis points to 4.75%. This represents the highest rate among G-7 industrial countries. The increase is the 15th such occurrence since the rates stood at a 45-year low of 1% back in June of 2004. It is also the largest series of hikes within the last 25-years. The policy statement was eerily similar to the course set by former chairman Greenspan and kept the comment, "Further firming may be necessary." However, Bernanke stood before the financial markets seeking to unquestionably establish his credibility as a Chairman who will fight off inflation.

After the policy announcement, both the equity and debt markets showed their displeasure with the prospect of not one, but two further rate increases to come this year. The Fed Fund Futures had priced in a 90% probability of a May rate increase while only a ~20% chance for another in July. On this change of probability the major stock indices fell roughly a percent while the Treasury market saw yields move slightly higher (prices lower) as the 10-year note climbed three ticks to finish at a yield of 4.78%.

The Bears viewed the language as a continued effort to head off inflation via further tightening and the risk the Fed will overdo it and stifle any meaningful growth. On the other hand, the Bulls continue to argue the Fed has some more room to maneuver because of stronger growth and low core inflation. As seen below, the Bears won-out for the day.

Click chart to see full version.

The key now is to see if the markets continue on yesterday's action. If so, further weakness may be imminent. However, if the market shrugs off the immediate reaction, not unlike last week's engulfing day, the Bull's will remain at the campfire while the Bears continue their hibernation. As for the remainder of this week, there will be another metric which will come into play – "Window Dressing." Being the end of the quarter, expect nothing less than the phenomenon of whipsaws and manipulative action by large institutions rearranging their portfolios.

Until next time:


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