Today's Explanation

Much of the recent up-and-down action in stocks has been blamed on interpretations of Federal Reserve comments

By Joseph Lisanti

In ancient times, the Romans forecast the future by reading chicken entrails. Instead of entrails, we read comments by the Federal Open Market Committee. The results are about the same.

Some investors have been worried since the Fed's statement after its Mar. 22 meeting that "pressures on inflation have picked up." The S&P 500 closed near its low for that day.

It's unlikely that the decline on Mar. 22 was related to the 25-basis-point hike in the fed funds rate. Just about everyone expected a rise of that magnitude. But fear that the Fed was about to abandon its "measured" pace of monetary tightening was said to have caused stocks to sag.

Conversely, many credited the Apr. 12 release of the minutes of that meeting, which confirmed that the Fed had no immediate plans to hike rates faster, with causing a jump in share prices. The gain was short-lived as stocks sank again the next day.

No matter how the soothsayers interpret the statements, it should be clear that the Fed intends to continue to increase short-term rates gradually until they no longer stimulate the economy. David Wyss, S&P's chief economist, thinks that means the fed funds rate will end the year at 4% to 4.5%.

We believe that a fed funds rate at that level would neither boost nor restrain the economy. It's a view shared by many in the investment community. So why does the market react so strongly to Fed comments, both real and perceived? We suspect that the hot-money crowd, frustrated by this year's market, latches onto anything that might move stocks, even for only a day.

The current bull move is aging, which historically has meant more muted gains. On the plus side, oil prices, though volatile, are easing a bit. And we believe good corporate profits will be reported in the weeks ahead.

Sometimes it pays to hang on and ignore the soothsayers.

Lisanti is editor of Standard & Poor's weekly investing newsletter, The Outlook

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