(By Michael Vodicka) We just heard from the most powerful central bank in the world, and the verdict is, not much. In spite of the Fed announcing it would extend its "operation twist," adding duration to the yield curve while also buying another $267 billion in Treasury's to keep interest rates low, the market's reaction is muted, with stocks trading in mostly neutral territory.
Overall, that is fairly good news from the Fed. The market was clearly expecting some kind of action, with stocks rallying hard into the number and retracing a good portion of May's losses. That had the Dow up close to 800 points in the last three weeks and lifting the averages back to recent multi-year highs.
That was a big bet for the market. Because when you look at the numbers, a lot of skeptics questioned whether the Fed had enough leeway to make a move. That's because the data doesn't really look that bad. Stocks are back to trading at multi-year highs, GDP growth is still well positive and the economy is still creating jobs. Those are hardly the conditions calling for Fed intervention.
But these aren't usual times. In fact, they are highly unusual. That's because of what's happening in Europe, and when you think about it, really everywhere in the world. China is slowing, Europe is drowning in debt, the U.S. is battling weak employment. There's lots of land mines out there. So the Fed needed to step up and support the global economy and pump some liquidity into the market.
And now it looks like those bullish bets are paying off. The fact that stocks are holding in higher territory on the news is a bullish signal. If the market didn't like the news, it would have coughed up some of those big recent gains pretty quick.
So if it's a bullish call for stocks and the economy, here are three trades to benefit from Fed activity.
With the Fed clearly committed to expanding its balance sheet and buying bonds to hammer down on interest rates, this looks like a classic don't fight the Fed trade. It's crazy to think about getting long Treasury's after the huge string of gains and low interest rates, but anyone who has shorted a bond over the last three years waiting for interest rates to pop has felt some serious pain. You just don't fight the Fed. iShares Barclays 20+ Year Treasury Bond (TLT) is an ETF linked to a basket of Treasury's with longer durations of 20 plus years.
If the Fed and other central banks of the world like the Bank of Japan are committed to debasing their currencies to stimulate economic growth, gold is a good place to hedge that weakness. An investment in gold is really an investment in a weak dollar, which has been in a general decline for the last 12 years, since the implosion of the tech bubble in 2000. In the meantime, there have been intermittent rallies due to various circumstances, but the general trend has been quite bearish. Recently, with the Euro flirting with another financial implosion and the Euro currency tanking, the dollar saw another one of its rallies. That has put some ice of the precious metals trade, showing a rare annual loss halfway through 2012 after a string of 10 consecutive annual gains. If the Fed decides to step on the gas and keep stimulating it will show up in gold. SPDR Gold Trust (GLD) is an ETF that is linked to the physical price of gold.
In spite of all these glaring weaknesses in the global economy, the market has been very conservative pricing risk into assets. That shows up in the VIX, which is continues to trade in historically low levels after falling sharply on the recent equity rally. If nothing else, we know we are living in a very volatile world and market. The Euro zone story has been almost day-to-day for the last two and a half years. And with political tensions running high and a presidential election right around the corner, there are more than a few events that could set off a serious bout of volatility. ProShares Ultra VIX Short-Term Futures ETF (UVXY) seeks to replicate, net of expenses, twice the return of the S&P 500 VIX Short-Term Futures index for a single day.The Big Picture
The Fed is sending a signal to the market and the world that it is serious about staying committed to stimulating the economy. The fact that they moved today in the face of decent economic data sends a message that it isn't too worried about inflation but very worried about jobs. That has remained the weakest area of the recovery in spite of positive economic growth. And with Europe seemingly teetering on the brink, the Fed wants the market to know it's got its back.