Thursday, August 1, 2019

Markets seem mixed to the "mid-cycle adjustment in policy"

We heard about the Fed cuts incessantly during July but the returns for the month end with a whimper. At the Fed press conference, Chairman Powell told investors that the cut was not a change to an easing cycle but a “mid-cycle adjustment in policy”. Words have meaning, yet it hard to understand the meaning in those cryptic words. Who would say that we are in the middle of the economic cycle? What is a mid-cycle adjustment? While Chairman Powell made the case that the Fed was able to talk down rates since December, how is this just a mid-cycle adjustment? It also is not clear how a monetary policy shift to a 25 bps cut will help consumer or businesses. Nor is it clear why the balance sheet reduction program had to be cut a month early. Investors are left with more questions than answer and that creates uncertainty and risk avoidance.

What is clear as we complete over half the year is that returns do not reflect either perception or reality in the real economy. If there are economic fears, we are not seeing them in asset prices. US large cap returns are now over 20% for the year. Small cap value and growth all have double digits returns. The global economy weakness has only impaired returns in global and EM equities. Fixed income returns are all positive based on fear flows and liquidity. Basic asset allocations like a classic 60/40 stock/bond blend have produced double-digit returns. There may be investor fears, but they are not showing in financial asset returns. 

With central banks around the globe focused on providing more liquidity, albeit in varying degrees, there is little on the horizon to suggest a return reversal based on policy mistakes. With summer heat and humidity comes a work slowdown, people in New York and London move slower and we expect the same for markets. There have been exceptions to this rule like August 2007, but there is little to suggest that markets are preparing for a fall. Can there be a decline in August? A correction after the strong showing for the last seven months is natural, but that should not change asset allocations. 

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