December 19, 2013
In what was the most explosive rally seen in weeks, the Dow and the S&P 500 closed at record highs yesterday. Investors celebrated after getting some closure on what was the biggest question on Wall Street in 2013. Of course, I'm talking about the question of when the Fed will start to taper.
It may be Christmastime now, but the Fed has been playing Santa Claus all year with its money pump open to the tune of $85 billion a month. So as Chairman Ben Bernanke and company prepared for their final meeting of the year yesterday, investors nervously watched to see if they would turn into Grinches and start to tighten the spigot.
They did, but just a little, announcing that in January they will trim bond purchases by $10 billion a month, a fairly small 11.5% reduction. The important thing is that most of the stimulus remains in place and the Fed signaled that the economy and job market are finally strong enough to begin cutting back.
At the same time, the Fed will not cut too aggressively too soon because despite overall improvement in the labor market, problem areas remain. The unemployment rate for workers 25—34 actually rose in November (to 7.4% from 7.3%), and the rate for 20—24 year olds was 11.6%. That's an improvement from 12.5% in October, but youth unemployment remains shockingly high.
Incoming Chairperson Janet Yellen takes the Fed's unemployment mandate very seriously, so I expect her to be cautious in unwinding support for the economy. And even with a cutback in QE, the Fed will remain accommodative on interest rates, which should remain historically low.
This is all very good news for 2014. In 2013, stocks were able to move higher even without earnings growth thanks to the Fed's money pump, and it's important that growth is returning around the same time that the Fed is starting to cut back its stimulus.