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Ahead of Wall Street

Friday, August 24, 2012

It is perhaps premature to say that Thursday sell-off is the start of the long-awaited correction that doubters like me have been writing about for some time now. But it will not look materially different from Thursday’s trading action when it does arrive. Once investors realize that the fairy dust of more Fed QE has simply no relevance to the issues facing the U.S. economy, they will start walking back from some of the more optimistic bets they put in the summer.

But investors are still double minded whether more QE is coming or not. Minutes of the Fed’s last meeting stated in plain words that a majority of FOMC members favored more accommodation. But the economic ground realities at the time of that FOMC meeting on July 31/August 1 were somewhat different from what transpired afterwards.

Most economic indicators are still no different now than how they have been in the last few months. For example, this morning’s July Durable Goods report can hardly be called positive; it was at best neutral, though I would argue that it is actually in the negative column given what it tells us about the state of capital spending in the economy. But we did get in recent days relatively healthier looking readings on retail sales and monthly jobs.

This has raised doubts in investors’ minds that the Fed may not come through after all. It is this backdrop that has put the spotlight on Bernanke’s speech next Friday at the Fed’s annual Jackson Hole meeting. The expectation is that Bernanke will provide more color on the Fed’s latest thinking about the economy, which will help the market handicap the odds of more QE in next month’s FOMC meeting. The Fed’s Beige Book report next week (Wednesday) will also be relevant to this discussion. 

My view, on the other hand, is that more Fed action is simply irrelevant to the U.S. economy. Monetary easing helps the economy by improving liquidity and bringing down interest rates, both non-issues for the U.S. economy at present. As such, while more QE may give stock market investors a temporary psychological high, it will have even less impact on the economy than the preceding version.

In corporate news, results from Autodesk (ADSK - Analyst Report) and Salesforce.com (CRM - Analyst Report) after the close on Thursday provide a less than inspiring view of the tech spending outlook going forward as both companies guided lower. Business spending in general has been losing steam lately, as was confirmed by this morning’s July Durable Goods report. Not to beat a dead horse, but more QE will do little to prompt companies to spend more if they are not doing already given where interest rates are at present. 

Sheraz Mian
Director of Research

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