Not All Rate Cuts Are Created Equal

Yesterday, the FOMC statement dropped the phrase from the January statement: "the
extent and timing of any additional firming that may be needed…"

While many people interpreted this as a shift towards a Neutral Bias, it was more of a half step. Call it "pre-shift language."

As we noted, this change reflects an acknowledgement that the economy is slowing and inflation remains elevated. Looking at the past few months data, it is fairly obvious as to why they made the change: The Economy is visibly cooling. We have seen an increased risk of a sharp economic slowdown, if not a hard landing. As Federal Express made clear, peak cycle earnings are now at risk as activity slows. At the same time, Inflation has not moderated.

There are only two reasons for the FOMC to shift to neutral and prep for rate cuts — one good, one bad. Yesterday was the bad reason.

Its not that the Fed is suddenly less hawkish because inflation threats have suddenly disappeared. Indeed, the Fed specifically noted that "Recent readings on core inflation have been somewhat elevated." In other words, this shift in posture (if not quite bias) was not motivated by the vanquishing of inflation, it was due to threat of recession.

Traders rallied the Market on the news. They tend to shoot first and ask questions later. I suspect the subtleties  of whether this was a good or a bad reason for a future rate cut may have been lost on them. We don’t like to argue with traders, as their attention spans are notoriously short (I say that as someone who began his Wall Street career on a trading desk).

Traders have a tendency to create self-fulfilling prophesies. Yesterday’s balance of volume was 90/10, meaning the up/down volume was 9 to 1 to the positive side. This was the 2nd such 90/10 day this month. The last time we saw two 90/10 days w/i a month was back in June of 2006. Buyers then were amply rewarded, as markets tagged on about 20%.

However, there is a significant difference between then and now — The February 27 whackage was a 90/10 DOWN day. That makes the parallel to June 2006 less than perfect.


For more on the significance on 90/10 days, see our two part discussion with Lowry’s Paul Desmond for details.


UPDATE: March 22, 2007 8:06am

Mark Hulbert goes over the bullish implications of a 90/10 day here: Nine to one

In addition to pointing out the significance of having two 90/10 days in close proximity, he also mentions a notable failure: March 16, 2000

"This second 9-to-1 up day adds greatly to the bullish significance of
the first, according to Zweig. That’s because a single 9-to-1 up day,
by itself, has not always been a bullish event. Perhaps its biggest
false signal came on March 16, 2000, at more or less the exact top of
the market before the Internet bubble burst."

According to Martin Zweig, the originator of the 90/10
day analysis, a "9-to-1 down day in the proximity of two 9-to-1 up days
"not as much [upward] thrust" as do two 9-to-1 up days that are
unaccompanied by a 9-to-1 down day."

As we noted above, that is the primary difference between this set of 90/10 days and the ones experienced in June . . .


Nine to one: A rare and bullish technical event occurred Wednesday
Mark Hulbert
MarketWatch, 5:43 PM ET Mar 21, 2007

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What's been said:

Discussions found on the web:
  1. Peter commented on Mar 22

    European and Asian markets are following the US rally on the shocking revelation that the Fed won’t likely raise interest rates again.

    By the June meeting, rate cut odds right now are at 38% up from 26% yesterday prior to the FOMC statement and down from 42% as of the close.

    Bonds have been pricing in a rate cut by yr end for a while and has priced in almost 2 for the past month. With inflation trends still remaining elevated, the Fed will be reluctant to cut so soon BUT we all know when push comes to shove, saving the economy with rate cuts is going to be their move. We then have to ask, with long term interest rates at historically low levels and a consumer already highly leveraged, will lower short term rates help?

  2. V L commented on Mar 22

    After the statement: USD is plunging, commodity prices are spiking higher, and oil is near $61.

    Guess what will happen to inflation and USD. (Mexican Peso will worth more than USD)

    The Fed has ignored their primary responsibility – fighting inflation.
    It is a shame. The Fed is so incompetent.

  3. Bill commented on Mar 22

    I have read Marty Zweigs book . I did notice his 9-1 ratio and odds of market directions following . Good book , He seems to be right on with his theories . Good article . Thanx -Bill

    Winning on Wall Street

  4. V L commented on Mar 22

    It is amazing how fast the bulls and TV-talking-heads (CNBC is the worst spinner) have shifted now from one B.S. (the economy is strong) to another B.S. (The Fed will cut).

  5. costa commented on Mar 22

    Wasnt one of Marty’s big thing in his book Dont Fight the Fed too. Good book though

  6. Adam commented on Mar 22

    I am a firm believer in the maxim “The market is the economy”. There is no way in hell the Fed will cut rates in the face of increased inflation unless the market/economy is tanking. Even then, I am not 100% certain the Fed would abandon its responsibility to combat inflation. What this means is that those bulls hoping for a rate cut are insane. The only way they will get their beloved rate cut is if the market has already tanked 10-20%.

    Now, it is my opinion that the market will, in fact, drop 10-20% over the course of the next 3-4 months, and the Fed will be forced to lower rates some.

  7. mark commented on Mar 22

    the study may not be all that significant. It would be better to determine when the 9/1 days occured, near a bottem or when the market is making new highs. You would expect to see 9/1 type days near bottems and the subsequent returns significantly greater than the 22% returns of the study, i.e. march 2003, june 06, thus skewing the average returns. Instead tell me what is the % of wins to losses, not the average gains, and where the gains occurred, when the dow is making a three year low or a 3 year high. Its not a study i would gamble my client’s money on.

  8. Fred commented on Mar 22

    Sentimentrader notes that since 1950, when we have had 5, 9/1 ratio days (up and down), 9 out of 11 times, the mkt was up ~3%, 1 month later.

  9. Fullcarry commented on Mar 22

    If the Fed can continue to devalue the dollar without paying a penalty via higher interest rates then it makes sense for equities to do better.

    Inflation is not a bad thing for stocks as long as interest rates stay down.

  10. jkh commented on Mar 22

    The Fed did not go to neutral.

    They only dialed down on a tightening bias.

    Instead of noting both the cause (inflation risk), and the potential consequence (policy firming) of a tightening bias, they noted the cause only.

    This is an awkward and slippery change of phrase for a Fed that supposedly is clearer in language than the previous one.

    In fact, there’s a logical contradiction in the language. The causal risk was heightened in the language while the logical consequence was omitted.

    So the cause for the bias is now riskier, but the logical consequence is less likely. It makes no sense.

    Nevertheless, on a scale of 2, perhaps it reduces the tightening bias from 2 to 1.

    But it certainly doesn’t move it to 0, which would be neutral.

    The market definitely overreacted.

  11. dyugle commented on Mar 22

    With the dollar slipping what happens to the yen carry trade?

  12. shawn commented on Mar 22

    I think Mark was clearly not objective in this article with his pumping style — There are TWO 9-to-1 down days on 2/27 and 3/13, not JUST 1.

    He should point that out, and this will leave the doubt of the power of the bull to continue on.

    He clearly wanted this article to justify for his bullish call few days ago on his crappy contrarian newsletter.

  13. jack commented on Mar 22

    “With the dollar slipping what happens to the yen carry trade?”

    Nothing as yen is weakening too.

  14. RMX commented on Mar 22

    Anyone notice the 10 and 30 year treasury yields so far today? If markets really believe in the potential for possible Fed Rate cuts, could this be a preview of the “reverse conundrum” scenario?

  15. Fred commented on Mar 22

    The yield curve is busy casting its vote. So far, on the 2/10 spread, we have gone from ~ 10 bps inverted a few weeks ago, to ~ 3 bps POSITIVELY sloped. The bears are rather quiet on this front. The banks are hated, and heavily bet against. This is yet another massivly crowded position. I’ll take the other side of that trade!

  16. shawn commented on Mar 22

    Fred, don’t forget, the CFC and many sub-prime are heavily shorted, and they cratered …

    Sometimes, majority are right. The SP500 market need the majority to push the index to multiple year highs with bullish sentiments.

    Contrary indicators work sometimes, and also fail many times.

  17. Fred commented on Mar 22

    There is dumb money and smart money. Right now the COT (smart money) has gone from very short to long, while the dumb retail investors are loaded up on puts and shorts. Ignore at your own peril. Buy fear and sell greed….it’s not different this time.

  18. Mike_in_FL commented on Mar 22

    RMX — yes, I have noticed the action in the long end of the yield curve. We’ve seen a very rapid “disinversion.” Coupled with the sharp rise in the 10-year TIPS spread over the past few days, I’d say the bond market is giving Gentle Ben a thumbs down on this policy statement. It’s saying now is NOT the time for more easy money and/or wimpiness on the inflation front. I keep hearing about how inflation is a lagging indicator … yet it has now been about nine months since the Fed stopped hiking rates and core inflation is still hovering in the 2.6%-2.7% YOY range. How much patience are bondholders going to show?

  19. fred c. dobbs commented on Mar 22

    I wonder how this wonderful 9-to-1 indicator performs on days when the market can’t even read a simple (well, not so simple, but it’s short!!!) FOMC statment. The Fed did not go to neutral. It simply noted that there are big risks on both sides, but the risks are NOT EQUAL. What part of “the Committee’s predominant policy concern remains the risk that inflation will fail to moderate as expected” does the market not understand? The chances of a rate cut are the same as before: None until the economy (not the market!!!!!) craters.

  20. Fred commented on Mar 22

    Fred…the Fed took out the language that a hike was a forgone conclusion. It clearly is a change in bias…while not necessarily totally “neutral”.

    I personally think BB will go down as one of the best Fed chiefs we’ve had. Early, but that’s my call (so far).

  21. Winston Munn commented on Mar 22

    I rarely take issue with the “boss”, and maybe my age makes me more cynical, but I really don’t see any “hawkishness” to the Fed at all other than lip service.

    This economy is built on debt, massive debt, and only more debt can sustain it.

    Even Ben agrees: “WASHINGTON – The smooth flow of credit is “essential for a healthy economy,” Federal Reserve Chairman Ben Bernanke said Thursday, amid continuing concerns about the impact of risky mortgage loans on the economy.

    Bernanke, in brief remarks to a Federal Reserve conference, didn’t talk about the economy, interest rates or problems with risky mortgages, per se.

    But he did say, “Credit risk is a very important topic.”

    The big threat to the U.S. enomony is a credit crunch – if the Fed cared at all about inflation M3 wouldn’t be running at 11%.

  22. Micahel Schumacher commented on Mar 22

    Bernanke= sock puppet…no more no less.

    Just another mouthpiece for the current administration.

    I loved the comment from the Fed late in the day yesterday….”the market overreacted” sure as well did…had alot of help from the “temporary open market” money sack too.

    They should have had the release like this:

    “ready……..set……..hey!! you on the SPX, wait for your turn…….go”

    That would have accomplished the same thing.

  23. jack commented on Mar 23

    “There is dumb money and smart money. Right now the COT (smart money) has gone from very short to long, while the dumb retail investors are loaded up on puts and shorts. Ignore at your own peril. Buy fear and sell greed….it’s not different this time.”

    Is there a place I can look it up or confirm? I saw some conflicting info on the COT being short or long. has much delayed reports.


  24. jack commented on Mar 23

    “They should have had the release like this:

    “ready……..set……..hey!! you on the SPX, wait for your turn…….go”

    That would have accomplished the same thing.”

    How do we know if these were not big market players orchestrating a false rally to pull some dumb money into the play?

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