Key points

• Unfortunately, the lack of “lift off” via a rate rise was made worse by Yellen’s commentary. US equity futures fell for the entire duration of the press conference.
• The press always reports market loses in “billions” but gains in “points” and there have been plenty of headline grabbing scare stories, most of which will not prove to be correct.
• In the meantime, keep buying dips in high quality companies and wait patiently for the gloom to lift.

I was sitting up at my trading screens at home very early last Friday morning (4am) waiting for the FOMC rates decision and associated commentary from Federal Reserve Board Chairman, Janet Yellen. What a disappointment it turned out to be.

As a global absolute return fund manager, events like FOMC interest rate decisions are important. This is particularly so after nine years of zero interest rate policy (ZIRP).

While the markets had decided that a rate hike, or aka “lift off”, wasn’t coming this month, what they, or I, didn’t anticipate was the dovish (bearish) tone from Yellen in her press conference.

When doves cry

Traders had expected no rate rise yet “hawkish” (bullish) commentary. However, they got no rate rise and ‘dovish’ commentary, which simply made markets ask the question “what does the Fed know that we don’t?”

You can see this via how US equity markets moved ahead and after the rate hold decision. Wall St had rallied from recent lows, after New York Federal Reserve Board President William Dudley made comments that the rate rise wasn’t a given. That triggered a short-covering relief rally into the decision. The confirmation of the rate hold saw the Dow instantly rally another 200 points, only to fade sharply in the next two hours, as Yellen held a press conference. The next day global markets melted down again as investors and traders reacted to the Fed’s dovish tone.

That is an understandable reaction because the Fed has created confusion. This is the most important Central Bank in the world and they have confused/misled markets and markets are reacting to that confusion with volatility.

As I always say “confidence is a derivative of leadership”. That is true in politics, corporate life, funds management, sport and even central banking. It would appear clear to me that markets are losing confidence in Janet Yellen’s leadership of the Federal Reserve.

Central banking is about delivering a clear and consistent message. Ben Bernanke did that extremely well. Mark Carney at Bank of England and Mario Draghi at the ECB also do that very well. It’s fair to say Glenn Stevens at the RBA is also in that clear and consistent message camp. Unfortunately for all of us, Janet Yellen is an absolutely TERRIBLE COMMUNICATOR and she is the most important central banker of them all.

She is clearly a highly intelligent person. Yet history is lettered with great intellects who were woeful communicators.

Mixed messages

The Yellen led Fed is sending inconsistent and mixed messages. Believe it or not, markets would have RALLIED if the Fed had raised rates, as it would have been seen as a sign of confidence in the US and global economies.

Unfortunately, the lack of “lift off” was made worse by Yellen’s commentary, which, in my view, was the single worst press conference I have ever seen from a central banker. It was absolutely terrible and US equity futures fell for the entire duration of the press conference.

The other problem with the Fed is too many voices speak. On Saturday, three other Fed members came out with their own views to try and offset the damage Yellen had done. Again, all this did was increase confusion and in turn volatility.

It would appear the Fed has become “beta” dependent, not “data” dependent. US economic data has justified a Fed rate rise for at least the last six months. However, negative movements in global markets (beta), emerging markets and commodity prices seem to have swayed the Fed into a hold when they should have raised. The strong US dollar may also have played a role in their decision.

Now we have the situation where markets have now moved back Fed “lift off” expectations to 2016, which could well mean markets remain volatile and uncertain for the remainder of this year. I think we are all confused by the Fed and that’s a bad thing. It’s a bad thing when confusion combines with weak technical and momentum indicators in markets.

While I still recommend buying dips in high quality global and Australian equities, the enduring confusion caused by the Yellen-led Fed will mean that volatility continues. By volatility I mean genuine up and down volatility inside these new lower trading ranges we find ourselves in. Unfortunately we will NOT get a major rally UNTIL the FED gives us clarity on “lift off”. Markets need leadership and they need it from the Fed more than ever.

Clarity needed

While I think there’s plenty of value, growth and yield to be found globally and locally in the right equities, for that value to be released we will need the Fed to deliver some clarity, which would lead to equity risk premium being added back to equities (ie P/E’s go up).

The other thing we need to consider is sentiment. As a fund manager, I see all the research and strategy views from leading analysts and strategists. I also see all the technical analysis from leading technicians. I have to tell you since the Fed increased confusion, the flow of research into my inbox has been universally bearish. There is even a growing chorus who say the 5-year equity bull market is over. Everyone is concerned and I can see that in my inbox.

While the contrarian in me sees that as a bullish development because universal bearishness never happens at the top, in this world of instant information you will see more and more of these negative views find their way into the mainstream press and affect retail investor sentiment.

Australia, in particular, seems an easy whipping boy. This week alone I have read “Australia is toast”, “Australian banks to cut dividends in 2018”, “Australian housing market had peaked”, “Australia heading into recession”, and “Australia dollar headed to 50 US cents”. Of course, the standard S&P/ASX 200 falls by “$35 billion” was also wheeled out a few times. The market goes down in “billions” but up in “points”.

Either way, the negative analysts and strategists are giving the press plenty of ammunition for headline grabbing scare stories, most of which will not prove to be correct, but do have a sentiment and pricing effect as they hit the mainstream press. It’s basically a negative feedback loop.

This is all as frustrating for me as a fund manager, as it is for you as an individual investor. While I can protect capital by shorting index futures etc, and have done that effectively over the last two months (AIM fund up marginally versus S&P/ASX200 -11.5%), for individual investors this is a difficult period because you don’t have the currency and index hedging tools that professional investors have available.

Hope for tomorrow

But even for professional investors, this feels like being in the spin cycle of a washing machine. My team and I have had to move quickly to protect our unit holders’ capital. I suspect we are going to continue to have to be nimble for the remainder of the year, until Janet Yellen gives us come clarity and confidence.

Yellen speaks at 7am tomorrow morning Australian time. Let’s all hope she doesn’t create further confusion.

I wouldn’t be betting my house on her ability to do that or the markets potential to trust her. I think markets have lost faith in her leadership of the Fed and it will take some time for that trust to be rebuilt.

In the meantime, keep buying dips in high quality companies and wait patiently for the gloom to lift.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.