Double Fault

Recently in Florida, I had the opportunity to play my 12-year-old son in tennis. I am a poor recreational player, while he has been taking lessons and playing regularly since he was three. The only lesson I’ve ever received was from him, during this match, when he kindly pointed out the mistakes I was making and how to correct them. I learned quickly, however, that I could get in his head, causing him to double fault. Doing this often enough, I was able to win a few games. Hoping your opponent double faults often enough, however, is not a strategy.

One could say the Federal Reserve’s communication last month was their attempt to move from double faulting to deploying strategy. Or, you could argue that this turn-about is exactly what “data dependent” looks like. The Fed has used those two words to regularly describe their current interest rate policy. Examining their statements and the stock/bond markets’ reaction provides some insight

Faulting to a Fault

The Fed’s communication during the fourth quarter of 2018 led to a near 20% decline in stock prices through November and December. At that time, it indicated a determination to raise interest rates more than once in 2019 and beyond. Equity investors saw weaker economic growth coming and felt the Fed was misreading the future potential for growth and inflation and might act too aggressively.

In addition, the Fed’s communication between September and December was unclear to market participants. It seemed to be caught between a desire to normalize policy and the fact that regardless of our economic growth rate, the specter of significantly higher inflation was nowhere in sight.