Sceptics guide to investing . I'm Clem Miller and today we're going to talk about Federal Reserve meetings and soothsayers . Steve and I will dig into the recent meetings and how they might affect markets . When the Fed meets , which is really about 10 times a year , they're trying to satisfy their dual mandate . So what is this dual mandate ? It's this mysterious full employment , however they might define it , and inflation control , which they've said is roughly keeping inflation to roughly around 2% per year . They use the interest rate level and quantitative easing and other tactics to help the economy achieve what they define as success . There's always one element which is always present , which is prognostication . Everyone likes to play predict what's next . So , Steve , do you lose sleep during the week of Fed meetings ? No , and why is that , Steve ? Fed ?
Steve DavenportMeetings are a way to fill time on finance TV between crypto and meme stocks, no really . The Fed plays an important role in the markets . It's just unlikely that the prognosticators could be weighing anywhere near the data provided by the Federal Reserve system . There are 12 regional banks , each staff with economists and professionals to evaluate how the local economy is doing . Five of the regional bank presidents joined the Board of Governor numbers in a rotating basis . The system of regional banks was designed to represent the uniqueness of the different areas . The New York Fed has a much different business mix than the Dallas Fed . They are using the latest government data and they have use of any international economic research to inform their decisions .
Steve DavenportI have a hard time thinking that some of the reporters or strategists have anywhere near the information to evaluate and make a completely informed decision . I'm reminded about the Teddy Roosevelt quote about the arena . "It is not the critic who counts . Credit belongs to the man in the arena . If he fails , at least he fails while daring greatly , so that his place shall never be with those among the timid and cold souls who know neither victory nor defeat .
Clem MillerThat's quite a quote , Steve .
Steve DavenportYeah , it might be too much for the Fed , but I believe that people in the room are making the decisions and people outside the room can't really say whether it's good or bad .
Clem MillerSo really , does the Fed really get the job done in terms of helping the economy ?
Steve DavenportI think it's interesting how , even though the Fed sets these rates , the market will also tell you from the prices on some of the futures that they disagree . So I think that there is a constant battle between the market and the Fed . One future prices for different time periods in the market vary from what the Fed thinks the rate should be . Fed works on a basket of common goods which may not be the retiree or younger person's actual expenses . So when they say they got it to 2% , that's 2% for a certain group of the economy . The Fed has a new goal , number three , of transparency , and it's very hard when they don't have great models or a track record . These goals of transparency sometimes become just as obfuscating as the prognosticators .
Steve DavenportAnd last item is interest . Rates are a very blunt tool and everybody likes simple answers . So when we say the Fed's increasing rates or decreasing rates , it gives somebody an idea that more liquidity helps the economy . Less liquidity slows the economy down . It's really a lot more complicated than that , but that's what people like to believe . So US regulators and the Fed have struggled . When inflation matters and when it will be sticky , we value certainty and markets are forever reminding us that the more things change , the harder predicting becomes .
Clem MillerYes , but still you got all these folks on television opining about the Fed and it really makes for a lot of sometimes interesting and sometimes boring television . So what frustrates you really with the Fed hysteria ?
Steve DavenportWell , I'm a quantitative guy and I believe that you got a measure . If you say that you did predict something , how would your prediction be measured ? You know how did it come out ? There are no metrics on any of prognosticat ors . They all claim authority , but they haven't shown any familiarity with the measurement concept . When there is a surprise , all previous guarantees are suddenly forgotten . Prediction is hard . These people want to be able to make the claims of expertise when I think knowledge is what they should be providing . The Fed acts in this case . For this reason , At this point of the interest cycle , the market response is positive because lower rates indicate a better operating environment for business . That's what I'd like them to be saying . I think . When they say the Fed is loose , Fed is easy , Fed is guaranteeing markets good returns , those are all pretty bombastic statements that I think could all use a little bit more refining . I'd just like them to talk to us like adults and not try to treat us with one word or eight second blurbs .
Clem MillerUnfortunately , you need some degree of market expertise to be able to interpret this . You have a lot of folks on TV who are thinking about this from the perspective of being TV stars more than anything else . Steve , the task is hard , but we do have to admit that the Fed has a lot of resources to fix things . They have hundreds of economists working for them . They should be able to have some success in being able to control inflation , keep the economy going Sure . The results so far have been pretty good , but in past years , past decades , they haven't been so good . The task is hard . What do you think about their ability to actually achieve success in fulfilling their mandates ?
Steve DavenportYes , I think they have a lot of resources , but one incident that really sticks in my craw was during COVID . We saw the underside of the Fed . Three governors engaged in large personal trades while they were in the process of deciding how to react to the COVID crisis . As a professional , our firms and our industry certification , for example , the CFA , require a basic level of ethics . At various banks , I was not allowed to take anything beyond a glass of water when attending industry events . There can be no signs that what you are doing performing in the best interest of clients . Trading is pre-approved and controls are significant .
Steve DavenportThe Fed governors argue that there was no system , so they didn't do anything wrong . There was nothing illegal the term is front-running and they had significant information advantage . By information advantage , they were the ones making the decisions . All three decided to resign in retire versus go through a review of the trades . We've seen a similar situation with Clarence Thomas and his vacation with billionaires . We've seen House members and senators trading and having an unusual amount of success with companies who happen to be in front of them on their committees . So these are complicated to control , but these are common sense . What do you think about this , Clem ?
Clem MillerSo first of all , Steve , I'm very surprised that you were only allowed to take a glass of water . At least they should have allowed you to take a donut or a cup of coffee or something . Really beyond that , I agree with you that it's really common sense to avoid conflicts of interest . It's so important to put rules around conflicts of interest to try to avoid that . In the industry , we not only have regulations that are imposed on us , but we have ethical obligations through our CFA and others through their CFP program and so on . The whole idea behind this is that we're interested in promoting the welfare of our clients , of our customers , and not our own personal interests .
Steve DavenportFor example , glenn , I used to have to report my son's college account and when I were , I traded . I mean I had $4,000 or $5,000 in the account and the trades were usually $1,000 or $2,000 . You have Fed governors trading millions of dollars a day or two before their meeting announcement . I don't think this is accidental . I don't think it's small and insignificant .
Clem MillerTherefore , if it has size and it has obviously an influence on how much you trust these people and I think trust matters Yeah- I mean just I know that there have been mutual funds or ETFs that have been created around the idea that you invest with where Congress is investing their money , right where Congress people are investing their money , or against where Congress people are investing their money . I mean it could go either way . Congress could be . You could assume that Congress is doing the right thing by markets and invest where they're investing , what the stocks and industries where they're investing , or you could make the alternative assumption that they don't really know what they're doing . I don't know how the market or me as an investor can use information about where policymakers are going with their own trades . I just don't want them to make their own trades in connection with policymaking .
Steve DavenportYeah , I think as a CFA , we have a code of ethics and we're trying to perform for the best interest of our clients . If I look at congressmen , I think they should be trying to make the best what's in the best interest of their constituency , not in the best interest of their brokerage account . That doesn't seem like a lot to ask , that's right .
Clem MillerObviously , you're skeptical about the Fed , as am I question is whether our skepticism really turns into cynicism . What do you think , Steve ?
Steve DavenportI'd just like to finish with a very simple concept Ethics and leadership need to be more automatic versus reactionary . I don't think the Fed should have to figure out , or the Supreme Court should have to figure out , that there's a potential for a conflict of interest and they need to observe some rules . They should be following the law as a very minimum bar , not all you need to satisfy . I think you need to believe, everyone is watching . The three governors quietly left the institution , but the institution has suffered some lack of trust . Trust loss can take a lot longer to regain . All Congress and government employees with non-public information need to behave better . Period Drop mic , as we have seen with the Binance and FTX . Fines matter . The lack of a clear instruction on trading should not mean there are no rules . There needs to be a basic level of responsibility which comes with a greater power and authority . Yes , regarding this situation , I am cynical that there is not greater outcry or a desire to improve .
Clem MillerSo , Steve , what do you think about the direction of Fed rate policy , to the extent we can even know that , and does that environment create opportunity in certain asset classes ?
Steve DavenportYes , Clem , I believe that we can talk about direction and we can talk about generally tightness or looseness . I don't want to be the one that says there is going to be 50 basis point of cuts or 75 basis point of cuts . I think that presumes a greater degree of skill and knowledge . I think we are going to be higher for longer because I think that rents and some of the inflation is going to be a little stickier . I think that inflation is a slippery snake to tame . Savings levels , delinquency on cards and higher rents will continue to challenge consumers . So I believe that the rates will probably stay a little higher longer and I think the market will react in somewhat of a negative manner .
Clem MillerSo , Steve , in some future episodes we are going to be talking about the election year , obviously , but at this point , do you see anything happening this year that would affect the Fed ?
Steve DavenportI really don't . I think that the Fed will try to step aside , as they always have , and try to be apolitical . I think that's like trying to ask a person to be without sin . It's not really possible . I think that people are naturally going to do things that are in their best interest , and if it means the Fed Powell doesn't want to do something because he's coming up for reappointment , unfortunately , I think that they're all appointed with the idea that they don't react and they are not influenced politics . So I believe that there's probably a pretty big instinct on their part . If they're going to cut , they'll cut once or twice in the beginning , in March and April , and then , once the economy gets hot and heavy with the conventions in June , I think that we will see them go to sleep for a little while and then wake up in December again with potentially cuts when the election's over .
I think the bond environment currently creates an opportunity . Bonds are better right now , with the rates probably at their peak . Stocks have done well . Same taxes is usually a good thing , my father , the CPA , used to say , because it means you're making money . I think it's a good opportunity for people to stabilize on a certain percentage in their asset allocation and we'll see what happens . I think that there's a chance that the equity market will correct a bit and there's a chance that bonds will stay strong and represent a more reasonable part of your allocation than it did when rates were zero .
Clem MillerSo , Steve , we got a question in our mailbag what investment opportunities do you to see in fixed income ? And let me answer that first and then I'll turn it over to you . So you know , right now , as it stands , I don't have any fixed income in the portfolio . I do have cash in the portfolio , but no fixed income . I'm not 100% convinced that long-term rates , long-term yields , are going to come down fast , even with the Fed reducing short-term assuming they do . I think there are a lot of variables outside Fed control that affect long-term yields and really it's the 10-year yield , the 5-year yield , even longer yields than 10-year , that affect what happens with fixed income returns . So right now I'm not convinced that I should be in fixed income , but I'm watching the situation and it's quite possible I could . It's not something I totally take off my radar screen , but at the moment I think there's plenty of opportunity in equities and I see cash as , right now , a better alternative than fixed income .
Steve DavenportOkay , I tend to be more conservative , I guess , in my asset allocation . I've looked at the different cutoffs right now for my long-term assets , I'm about 20% in fixed income and I'm looking at corporate bonds as an interesting spot . I believe that some of our companies are becoming bigger than nations , and so their balance sheets can accomplish a lot of things , at least of which would be paying interest on their bonds . I truly believe there are more AAA companies than there are countries . Government should learn from business , and likewise there should be a share in a research among our universities and agencies . That's kind of a long way of saying that . I think corporate bonds represent a good opportunity , and I think it's something that people should think about , because I believe that a lot of these companies have , I would say , pristine balance sheets and therefore , in the bond space , I think there's a very good chance that they're not going to default . So let me just summarize and then I'll ask you for your final comments .
Steve DavenportIn summary , when we think about the Federal Reserve , we realize one . They have considerable power and resources which they put towards making their decisions . Ultimately , that power and resource should go towards the benefit of the people on Main Street and the people on Wall Street . Two , I think investment allocations should be set with rates moving plus or minus 1% . I think when we try to make each quarter point move be this significant event , I think we might be putting too much on our forecasting ability .
Steve Davenport3 . Laws and regulations need to improve for insider information use and misuse . I think the Fed , just like anyone else , and there needs to be reasonable rules applied so that people don't do things that are , you know , unethical or improper , and I think it should be understood . But if it's not understood , then we need to strip , stiffen up the laws and regulations . And the last item is I think you build an allocation for your needs and your comfort level , not for Fed meeting madness . It's about you and this is your money , and I think the Fed is one variable in the long list of variables that you need to consider . But while mine is , your investments need to satisfy you . They don't need to satisfy any prognosticators views of Fed going wild or Fed going passive . So what are your comments , kellan ?
Clem MillerWell , steve , I think you know , when I look at how folks evaluate the Fed , you know the talking heads and how much emphasis they put on Fed decisions . It almost reminds me of , you know , communism and the Soviet Union and how folks would put emphasis on five-year plans and state control and so on . And I think you know we have to realize that , even though government plays a big role in modern society and the modern economy , you know this is not , this is not state planning . We don't have the Fed planning the economy . It's just not the case . They may influence the economy , the economy influences the Fed too . So I don't think that folks should be putting as much emphasis on the Fed as a , you know , state planning organization . You know , I think people should look at the Fed as just one actor , albeit an important actor , in the overall economy . And you know .
Clem MillerI would just say one more thing and just go going to your point about investment allocations being tied to large rate moves . I , you know , I totally agree with that , and I would go even further to say that you know a lot of these . You know , as you mentioned , transparency is a big element in Fed policy making . Now , you know when the Fed communicates in advance that there will be Fed rate moves , then you know when they actually do it . It's not going to move markets . It will have moved markets , you know , a long time ago . So I'm not sure there's that much more information that available that comes out of a Fed decision that hasn't already been anticipated by smart market actors .
Steve DavenportYeah , I think it's very complicated and I'd say the average investor doesn't need to turn the TV off when they start talking about Fed meetings . I'm not sure the average investor is getting a benefit from it . So I think you respect it and you use it as a data point , but I think the soothsayers about the Fed need to be to have the volume turned off or the channel changed .
Clem MillerSo , everybody , you know , to all of our listeners , thank you for listening today . We really appreciate your listening to this podcast and to all of our other podcasts , and we look forward to your tuning in for our next podcast . Thank you very much , steve . Thank you 24 . Bye , bye .