Fed Tapers Matter

Over the past few years, we’ve all come to know the phrase “Black Lives Matter.” And regardless of what you might think about the organization of the same name (I have distinctive thoughts, but that’s for another time), one thing that must be said is that they did come up with a positive branding hook with the name. In fact, the name is so catchy that others have modified it to say, “Blue Lives Matter” and “All Lives Matter.”

Now, I have my own spin on this phrase, and I apply it to various aspects of life. “Rational Lives Matter” is my main motto, as that reflects my reverence for reason as man’s primary tool of survival. Then there’s “Nine Lives Matter,” which expresses my love of felines, and particularly Persian cats. Yet because so much of my own life is dominated by the financial markets, I now have come up with a spin on the phrase, and that spin is “Fed Tapers Matter.” 

You see, when it comes to the Federal Reserve and its current bond-buying program, also known as quantitative easing (QE), the consensus is that “tapering” of its bond purchases is going to begin very soon. Yet what really matters here is not when the Fed tapers, but how the Fed tapers. Stated differently, “Fed Tapers Matter.” Allow me to explain. 

Today, I am going to share an excerpt from my daily morning intelligence briefing, the “Eagle Eye Opener.” This is from the Tuesday, Aug. 24, edition, and I wanted to share it with you because I think it shows you the level of insightful analysis you get each trading day. 

Now, as much as I would like to take full credit for this analysis, I cannot. That’s because the “Eagle Eye Opener” is a joint venture between me and my “secret market insider,” a man who provides this same insight to thousands of high-profile market professionals each morning. So, we (if you’re a subscriber) get to benefit from the same morning intelligence briefing that the “big boys” do, and we get it in our Inbox at 8 a.m. EST each trading day. 

So, let’s dig right into the analysis of why “Fed Tapers Matter.”  

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The S&P 500 and Nasdaq both hit new all-time highs on Monday, and if there was a “reason” for the rally, it’s growing sense that the Fed won’t taper as aggressively as some had feared just a few weeks back.  

This idea has been percolating with investors since midweek last week (it was also why stocks rallied on Friday) but the announcement Monday morning that the Jackson Hole Central Bank Conference would have increased COVID-19 mitigation procedures and that Federal Reserve Chairman Jerome Powell would give his speech virtually drove home the point that the Fed has noted the spike in COVID-19 cases and the Delta-inspired headwind on the economy (albeit a mild headwind for now).

Those changes prompted the market to begin to anticipate a “dovish” Powell at Friday’s Jackson Hole speech, so given this influence we want to lay out a “Good, Bad and Ugly” scenario analysis for tapering, so we know what the market will likely do depending on Powell’s speech. Now to be clear, we don’t expect Powell to give any specifics on tapering Friday, but he should clearly “warn” the market that it’s coming. The key will be whether he stresses how gradual tapering will be.  

“The Good Taper.” The Fed begins tapering in December and at $5 billion or $10 billion/month, essentially leaving QE ongoing for most (or all) of 2022. Likely Market Reaction: Risk on. The market is still viewing the Delta variant and COVID-19 spike as a temporary influence, so if the Fed tapered more slowly in response to it that would create an environment where the economic recovery resumes as COVID-19 peaks, but it’d still have the tailwind of QE for basically all of 2022. I’d expect stocks to rally (the S&P 500 could push towards 4,750 or higher as multiples could expand) led by cyclicals and growth/commodities. Treasury yields would rise but not materially given the Fed will continue to buy Treasuries throughout 2022. But I’d still expect the 10-year yield to hit 2% in the coming quarters. The dollar would drop sharply (likely through 92) while commodities would be the biggest winners from this decision (oil and gold should surge on the weaker dollar and higher sustainable inflation).  

The “Bad Taper.” The Fed does as expected and begins tapering in December at a rate of $15 billion/month, ending QE in mid 2022. This outcome isn’t really “bad” because it’s already mostly priced into markets, but with COVID-19 cases high again and some rising concerns about growth, the market would be more sensitive to the Fed following this procedure. But as long as the market views the COVID-19 spike as temporary (and it still very much does) then this tapering schedule won’t derail the rally. Likely Market Reaction: Not much. Stocks could drop modestly on a knee-jerk “tapering is bad” tantrum, but again, this has been widely telegraphed so I wouldn’t expect too big of a move. Defensives and super-cap tech would outperform cyclicals and value. Treasury yields should rise back into the upper 1.50% range on this outcome in the coming months, although again I don’t think the increase in the 10-year yield would be “disorderly.” The dollar shouldn’t move much, as at 93 this outcome is already priced in, and the same can likely be said for commodities (again they are off recent highs, and this is largely priced in).    

The “Ugly Taper.” The Fed begins tapering QE in December at a rate of $30 billion/month (or more than $15 billion), ending QE before June 2022. This would be a shock to markets and substantially increase stagflation concerns, because the Fed aggressively tapering QE with the uptick in COVID-19 cases would clearly signal that the Fed is nervous about inflation regardless of the loss of growth. Likely Market Reaction: Pain. Stocks would drop sharply led by cyclical sectors such as energy, materials, and consumer discretionary. Super-cap tech, consumer staples and some financials (benefitting from higher rates) would relatively outperform but the entire market would be sharply lower. Treasuries would drop/yields would surge (10-year yield likely towards 2%), as would the dollar (the Dollar Index would rise towards 95). Commodities would be the biggest loser in this scenario and gold would get hit very, very hard.  

Would a “No Taper” Be Good for Stocks? No (at least not beyond the very short term). Markets might be inclined to think a total delay of tapering would be good for stocks, but that’s not likely the case beyond an initial (dovish is good) pop in markets. I say that because sustainably high inflation is much, much bigger medium- and long-term risk to stocks than COVID-19 (as long as the vaccines hold the line), because too-high inflation will ultimately result in the Fed hiking rates more quickly and crushing the economy (see 1970/early 1980). In the meantime, assets could rise but corporate margins would continue to get squeezed. Bottom line, a tapering delay would spark a short-term rally, but we’d be looking to get majorly defensive after that initial pop. Keeping inflation under control is much more important for the long-term health of the bull market than anything else.  

How the Fed tapers is the next major variable for this market (again assuming the COVID-19 cases do subside like they have in India and the UK) and how the Fed tapers will dictate whether that’s a tailwind or a headwind for stocks. Again, we do not expect these specifics to be announced on Friday. They will come at the September meeting. But we do expect Powell to hint at an outcome and given the Fed’s changes to the conference (masks, more social distancing, Powell virtual), if there’s going to be a surprise it’s likely dovish.  

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Well, there you have it. This is the kind of masterful, high-level market analysis you will find each and every morning when you subscribe to the Eagle Eye Opener. So, if you want the kind of market intelligence that the pros get every morning, and at a cost of about one nice dinner every quarter, then I invite you to check it the Eagle Eye Opener right now — it might just be the best decision you’ve made all summer. 

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ETF Talk: Tapping Into an ‘Internet Trust’ ETF

Not too long ago, I wrote about investors shifting from growth and technology stocks to value stocks.

At the time, the national sentiment was that the lockdown and COVID-19 pandemic would soon abate, and then things would return to normal. Now, it appears that those thoughts were premature.

With the effects of the Delta variant of COVID-19 still raging and Fed Chairman Jerome Powell possibly thinking about announcing that the Fed plans to curb its quantitative easing (QE) program at the next Federal Open Market Committee (FOMC) meeting, the defensive and technology stocks are the ones that are pushing the market higher.

One of my favorite technology-based exchange-traded funds (ETFs) is one that my Successful Investing readers will find familiar, as it has been a mainstay in our Aggressive Portfolio since June 2020: the First Trust Dow Jones Internet Index Fund (NYSEARCA: FDN).

The stocks in this ETF’s portfolio are selected from a list of companies that obtain more than 50% of their revenue from the internet. Then, stocks that meet the criteria are ranked by their three-month average float-adjusted market capitalization and by their three-month average share volume. Finally, stocks are ranked again, based on the average of the company’s market capitalization and volume ranking. Only the 15 highest-ranked stocks in the Internet Commerce subfield and the 25 highest-ranked stocks from the Internet Services subfield are included in the portfolio.

Currently, the fund’s top holdings include Amazon.com, Inc. (NASDAQ: AMZN), Facebook, Inc. (NASDAQ: FB), Alphabet Inc. Class A (NASDAQ: GOOGL), Alphabet Inc. Class C (NASDAQ: GOOG), PayPal Holdings Inc. (NASDAQ: PYPL), Salesforce.com, Inc. (NYSE: CRM), Netflix, Inc. (NASDAQ: NFLX) and Cisco Systems, Inc. (NASDAQ: CSCO). 

This fund’s performance has been relatively strong, even when including the damage done by the COVID-19 pandemic. As of Aug. 24, FDN has been down 2.81% over the past month and up 9.23% for the past three months. It is currently up 15.13% year to date.

Chart courtesy of www.stockcharts.com

The fund has amassed $10.49 billion in assets under management and has an expense ratio of 0.51%.

While FDN does provide an investor with a way to profit from technology, this kind of ETF may not be appropriate for all portfolios. Thus, interested investors always should conduct their due diligence and decide whether the fund is suitable for their investing goals.

As always, I am happy to answer any of your questions about ETFs, so do not hesitate to send me an email. You just may see your question answered in a future ETF Talk.

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In case you missed it…

What I Learned from Shaq 

I’m a very lucky man. 

I have been blessed with myriad opportunities from an early age, with parents who took an active interest in my education and who always pushed me to be my best.

In fact, my mother did so in a very shrewd way. For example, say I came home from school with a 97% on a test. My mother would look at the result, pause contemplatively, and then say, “Well, Jim, that means there’s room for improvement.” 

Now, you might think this is a bit harsh, but it actually was the epitome of love. You see, love is expecting the best out of someone, including yourself, in every situation. It is also holding yourself up to the highest standards, or the term that I often use, and that serves as the closing thought in every one of my publications, and that is to act “in the name of the best within us.” 

But why am I bringing up this blend of history and personal philosophy? Well, because both really are at the animating core of my work, not just here in “The Deep Woods,” but in all my investment advisory newsletters. And, this is particularly true of my labor-of-love project, the Way of the Renaissance Man lifestyle website and podcast.

Today, I am proud to present the kickoff episode of Season Four of the podcast, and this week’s guest is by far the most famous individual I’ve had on the show.

Indeed, all I must do is to you his abbreviated first name and you’ll know exactly who it is… “Shaq.”

That’s right, on the new episode of the Way of the Renaissance Man podcast, I speak with basketball legend, entrepreneur, actor, musician, corporate spokesman and investor Shaquille O’Neal. 

Now, when you grow up in Los Angeles like I did, the Lakers are practically a religion even if you don’t closely follow sports. So, as you might imagine, speaking with one of the high priests of the Lakers for the kickoff episode of Season 4 was a true delight. 

In this conversation with Shaq, we were joined by The Alkaline Water Company Chairman Aaron Keay. Now, as you may recall, Alkaline88 water is the only brand of water that I endorse, and it’s also the brand that Shaq represents.

Now, in this episode, you’ll learn how Shaq decides what business projects to get into, and just how intimately he’s involved in the details of his business ventures. As Shaq says, “he’s not just a pretty face” when it comes to business. In fact, he’s extremely hands on.

Plus, you’ll learn all about Shaq’s influences and mentors, including his main mentor since age 18, both on the court and in business, fellow Laker priest and entrepreneur Earvin “Magic” Johnson. Interestingly, I share an anecdote about when I first met Shaq and Magic some three decades ago, even before Shaq was in the NBA. 

If you’ve always wanted to peek into the mind of a legendary athlete, as well as an extremely successful businessman, then I invite you to listen to the Season Four premiere episode of the Way of the Renaissance Man podcast with Shaquille O’Neal. 

Finally, it’s hard to believe that we are already on Season Four of the Way of the Renaissance Man podcast. It seems like just yesterday we published the very first episode of the show, which featured tax cut warrior Grover Norquist. Yet that first episode was almost exactly three years ago to the day.

Yes, we’ve come a long way in our journey to help each other discover the tools needed to better focus our minds, integrate our thoughts with actions and live the lives we really want.

So, to all of those involved in making the podcast possible, and to all the fantastic guests I’ve been privileged to speak with, and most of all, to you, the podcast listener, I want to thank you for allowing my labor of love to be part of your life. May we continue sharing that love for years to come. 

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Locke’s Fence 

“The only fence against the world is a thorough knowledge of it.”

— John Locke

I already told you that one of my main mottos has become “Rational Lives Matter.” Well, the philosopher John Locke would likely have agreed. I say that because, in his famous quote here, Locke stresses knowledge of the world as one’s only “fence,” i.e. one’s only protection from the chaos that reality can sometimes bring about. Another way of putting this is that the more you know, the better equipped you are to prevail — and I love that!

Wisdom about money, investing and life can be found anywhere. If you have a good quote that you’d like me to share with your fellow readers, send it to me, along with any comments, questions and suggestions you have about my newsletters, seminars or anything else. Click here to ask Jim.