Will the market rally when the Fed has finished the tightening cycle? Is 1994 a good parallel? The Ed Keon interview on CNBC explains it. Look at this summary of the standard story from Doug Kass via Barry Ritholtz, then refutation from Ed Keon.
Link: 1994 Parallel?.
The delightfully impish Doug Kass (The Anti-Cramer) looks at the parallels between the 1994 tightening period and the present. There are bullish implications for using the 1994 Fed tightening template: 1995 - 2000 was (if memory serves) quite a run. Not …
Ed Keon, Prudential's Chief Market Strategist was just interviewed on CNBC's Squawk Box. We'll go back to his market views in a separate post in our Consumer Guide to Forecasts series, but he made an important comment on the impact of the Fed.
If you look at how the Fed affects stock prices or future stock returns, interestingly, it doesn't so much matter what the Fed does -- whether tightening or loosening -- what matters is how successful they are at actually doing the things they are supposed to do, fighting inflation without killing the economy.
Mark Haines observed that markets go up more readily when interest rates are falling than when they are rising.
Keon: If you look at it in what quants call a mutli-variate context -- you look at things all together -- what matters is what happens to inflation. That matters a lot. What happens to the economy-- matters a lot.
If you look, for example, when the Fed stops raising, what the market does, overall you say "not very exciting." You say What happens when the Fed stops tightening and we don't go into recession, the average returns over the next year have been 30%.
What matters is not so much what the Fed does just as a thing in itself, it matters how it affects the overall economy.
Haines (laughing): You mean I've get to think about this?
Conclusion: Yes Mark, you do. And so should every researcher who is using a simple bivariate causal model here, as in the oft-cited Ned Davis reports. The Doug Kass prediction about the post-tightening market depends upon his own out-of-consensus prediction about the post-tightening economy.
Since the Fed has only raised rates from a historic low of 1% to "neutral" it has not made an economy-killing move. In fact, the economy has thrived during the tightening cycle, even in the face of energy price increases and weather disruptions.