Agreeing with Hussman

Last Wednesday's FOMC policy statement confused some observers, but it didn't seem to confuse too many stock traders. At least not last week - this week may be an entirely different story.

When the words "any additional firming" were removed from the Fed's press release and replaced with the more neutral "future policy adjustments" following a meeting that saw no change to short-term interest rates, traders took that as their cue to send stocks higher.

Within minutes after the announcement at 2:15 PM EST, equities rose sharply on heightened expectations of a rate cut as shown below in a three-day chart for the SPDRs 500 (AMEX: SPY).


Stock traders would surely make poor prison guards as they are prone to shoot first and ask questions later - the questions seem to be coming to them today after a weekend of reflection about what the words from the Fed really meant.

In last week's side-by-side comparison of the two most recent policy statements from the Fed, the interpretation was far different than that gleaned by traders. Here, not knowing the key words ("additional firming") that telegraphed the Fed's "inflation stance", the change in wording was seen as a possible "hawkish shift" in the overall message.

After reading many accounts over the weekend about the Fed "abandoning their tightening bias", there were only a few who disagreed with the consensus view.

One of them was John Hussman over at Hussman Funds in his commentary from earlier today.

Given continuing inflation pressures and an otherwise unambiguous tightening bias, whatever room the Fed left open for policy change was clearly to allow flexibility in the event that the housing market deteriorates profoundly. A Fed cut is likely to be put into practice only under conditions that nobody would wish on this economy.
...
If the clarity of the Fed's continuing tightening bias is muddled by the rose-coloring of Wall Street's glasses, consider the following:

January: “Readings on core inflation have improved modestly in recent months”

March: “Recent readings on core inflation have been somewhat elevated.”

Both statements then attempt to maintain the Fed's credibility by asserting that those pressures “seem likely to moderate over time,” but also indicate that “the high level of resource utilization has the potential to sustain those pressures.”

Next, the Fed actually takes pains to re-affirm its tightening bias:

January: “The Committee judges that some inflation risks remain.”

March: “In these circumstances, the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected.”

“Predominant policy concern” - that's not a bias? From January to March, the Fed's language indicated more concern about inflation, not less.

The phrase "predominant policy concern" seemed pretty clear here too.

Naturally, the important question of intent will likely never be answered - if Fed Chairman Ben Bernanke was misunderstood, he'll probably make no effort to remedy the situation by talking to Maria Bartiromo as he did last year.

Like his predecessor, perhaps the new Fed chief is learning to communicate in a manner where everyone can hear what they want to hear.

Whether that approach will be greeted with the same results seen by his predecessor is an entirely different question.

Disclosure: No position in SPY at time of writing.