Uncertainty in Fed minutes and Brexit dominate markets

Uncertainty in Fed minutes and Brexit dominate markets

As if in tune with Shark Week, the markets seem to be wondering if it's safe to get back in the water. The release of the minutes from the June Fed meeting showed that even Fed officials were uncertain about the job market and the fallout from Brexit. 

The Federal Open Market Committee meeting
The Federal Open Market Committee meeting Federal Reserve (CC 2.0)

When the Federal Open Market Committee met in June the main issue was the dismal May jobs report. The US economy added only 38,000 new jobs in May, leading Fed officials and everyone to fear that the second quarter of 2016 would be the worst for job creation in four years. 

The Brexit referendum had not yet happened when they met, but it was on their minds and, while the consensus view did not expect the UK to leave, they all recognized the need to be cautious until the outcome—and its aftermath—were known. 

The slowdown in employment, even with a low 4.7% unemployment rate, along with the dangers of a possible Brexit, were enough to convince the members not to raise interest rates. While a minority still said that the Fed should raise rates once more before the end of the year, that number is likely to be lower now, since all agreed that Fed policy should support and coordinate with whatever measures might be taken by the European Central Bank and the Bank of England. 

The US stock markets recovered some of Tuesday's losses. If this seems counterintuitive, it makes sense if you think about what investors are hoping for in the long run. The markets are uncertain. But knowing that the Fed is also steeped in uncertainty is reassuring to them in a way. 

Why? Because the Fed will refrain from raising interest rates until it can be sure that raising them won't harm either the US job market or the global economy. And investors for the most part still want low interest rates. 

Low interest rates mean cheap credit for even more expansions, acquisitions, and stock buybacks. Large scale purchases like Microsoft's $26.2 billion buy of LinkedIn are easier when interest rates are low. An SEC filing about the sale indicates that four other companies also bid for LinkedIn: Alphabet's Google, Facebook, and Salesforce among them. 

Those companies still have cash to spend, presumably, and debt they want to finance at low rates. A rate increase by the Fed right now would add billions to the cost of whatever future acquisitions they might want to make. The same basic forces apply to businesses big and small. 

That's why the Fed being scared to do anything is reassuring to investors. The markets are likely to stay choppy through Friday, when the June Nonfarm Payroll and employment report are released. While a strong jobs report might be good news for the economy, it is unlikely to change the Fed's mind. And a weak one is likely to make the Fed all but certain to leave rates untouched through the end of the year. 

If Friday's report is weak, in other words, the markets may well rally on the expectation of unchanged interest rates. That would make for some interesting explaining on the news networks. 

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