A Dose of Gloom from the Fed

by BW staff

The Federal Reserve delivered more cheery news in the minutes to the Mar. 17-18 Federal Open Market Committee meeting released Apr. 8, saying that downside risks still predominated for the U.S. economy. Policymakers also appeared to disagree about some strategic steps in the Fed's purchases of Treasuries and other securities. Investors also received weighed data on Apr. 8 that showed a bigger than expected increase in wholesale sales in February—and a larger than expected decline in wholesale inventories.

BusinessWeek staff compiled the reaction of Wall Street analysts to these and other key topics on Apr. 8:

Action Economics

[T]he FOMC minutes…didn't provide details on Fed outright purchases that the markets were hoping to see. About the only reference to Treasury purchases was that one member preferred to focus on additional purchases of Treasuries, while another focused on additional purchases of [mortgage-backed securities], but both could support additional purchases across a range of assets. Not surprisingly, the Fed staff revised down its projections for economic activity and the labor market, and that was probably a key catalyst for the Fed to start purchasing Treasuries as part of [its quantitative easing strategy].

Also of note was the sharp deterioration in foreign economic activity, and in fact several participants said the "degree and pervasiveness of the decline in foreign economic activity was one of the most notable developments since the January meeting."

Overall, market participants viewed downside risks as "predominating." There was considerable uncertainty with respect to the size of the balance sheet—some thought a significant increase was warranted given the erosion in the economic outlook, while others thought the potential for a large increase from [the Troubled Asset Lending Facility] supported a more modest, though still substantial, increase in asset purchases. The minutes also showed the Fed had a conference call on Feb. 7 to discuss its role in the financial stabilization plan.

Beth Ann Bovino, Standard & Poor's

Wholesale inventories fell 1.5% [in February], much weaker than the 0.1% drop markets had expected. U.S. wholesale sales rose 0.6% in February. While commodity price firmness provided sales support, the surprise was mostly seen in the less price-sensitive durables component. January's 2.9% decline in sales was revised to -2.2%, while the 0.7% drop in January inventories was revised to -0.9%. The sales rise and inventory drop pushed the inventory-sales ratio down to 1.31 from an upwardly revised 1.34 in January (previously 1.30). The inventories decline supports another inventory subtraction in the advanced first-quarter gross domestic product report.

Richard Bove, Rochdale Securities

For years, I have viewed the spread between high-yield (junk) bonds and high-grade bonds as the best indicator of the willingness of investors to buy bank stocks. This indicator has trended negative for a couple of years but now seems to being moving positively. The reason why I like the indicator is because when spreads narrow between junk and high grade, it is a signal that confidence in financial assets is returning. When confidence returns in these holdings, bank stocks are the next instrument purchased.

Marc Chandler, Brown Brothers Harriman

The U.S. dollar and the yen have continued to regain ground against the major and most emerging-market currencies, though the euro is unlikely to post further losses [on Apr. 8]. European news has been mixed, with some evidence the drop in German and French exports is abating. That was counterbalanced by news of German factory orders dropping more than expected, while Moody's announced negative ratings actions on 12 Irish banks. The news stream isn't driving the euro….Its corrective move lower appears to be exhausted. It failed to test key downside support around $1.3100, and short-term momentum indicators are pointing higher. The Japanese yen's recent rally also appears to be running out of steam and the dollar is likely to gain back some of its [Apr. 7] losses.