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Fed Fears Put Stock Markets Into Reverse

By Dan Caplinger - Aug 19, 2020 at 4:05PM

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Did the central bank just take away the punch bowl for stock investors?

The stock market gave investors a small reminder of its capacity for volatility on Wednesday, giving up early gains and closing modestly lower. The move was tiny considering the extent to which the S&P 500 (^GSPC 0.43%) and Nasdaq Composite have risen to record highs recently. Yet it still left investors with some nagging doubts about what the future might bring, and the abruptness of the move in the last couple hours of trading threw market participants a bit off kilter. The Dow Jones Industrial Average (^DJI 0.45%) wasn't able to avoid losses either.

Today's stock market

Index

Percentage Change

Point Change

Dow

(0.31%)

(85)

S&P 500

(0.44%)

(15)

Nasdaq Composite

(0.57%)

(64)

Data source: Yahoo! Finance.

The Federal Reserve was the subject of most investors' attention on Wednesday afternoon, as the central bank released the minutes of its most recent Federal Open Market Committee (FOMC) meeting. At that meeting, the topics for discussion revealed at least some reluctance among central bank officials to do everything possible to prop up the U.S. economy. That gave some market participants pause, throwing several different financial markets into mild disarray.

What the Fed said

The Fed minutes revealed some nuances in the meeting late last month. Investors already knew about the FOMC's primary decision to leave interest rates unchanged, but they hadn't been entirely aware of certain details that got their attention Wednesday.

Federal Reserve building awning, showing engraved name and eagle with flag above.

Image source: Getty Images.

Foremost was the committee's discussion of whether it will put a hard ceiling on long-term interest rates. The move would be just part of broader efforts to try to keep monetary policy as accommodative as possible, encouraging more long-term borrowing that could be used to promote growth-seeking investments by businesses and greater spending from government agencies. However, the Fed chose not to engage in so-called "yield curve control," instead acknowledging it as a possibility for future use.

In addition, Fed staffers gave less upbeat assessments of economic conditions. The group cut their forecasts, saying that gross domestic product likely wouldn't recover as quickly as previously anticipated. The Fed staff also thinks that unemployment could stay at elevated levels longer than hoped.

Market responses

The resulting moves in various financial markets were varied. In addition to stocks giving up early gains, the following asset classes saw big shifts after the Fed announcement:

  • Long-term bond yields moved higher, reversing earlier declines and sending the price of the 30-year Treasury bond down by nearly a full point.
  • Precious metals moved sharply lower, with gold falling nearly $75 per ounce to $1,927. Silver declined almost $1.20 per ounce to $26.45, and platinum and palladium also saw significant drops.
  • Cryptocurrencies, which have also gained in popularity as safe-haven assets, gave up ground. Bitcoin fell more than 2%, and other tokens saw even larger declines.
  • The U.S. dollar gained ground, climbing by nearly a full cent against the euro.

It might seem premature for investors to panic just because the FOMC minutes didn't explicitly indicate every single action the Fed could take to support its monetary policy goals. Yet the minutes served as a reminder that conditions can change quickly, and when they do, the Fed's response could also be sudden. For those who think the stock market has climbed well beyond a typical margin of safety given current circumstances, the fact that market participants are at least a bit on edge is in some ways a welcoming sign of reason in a seemingly irrational stock market.

Dan Caplinger has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Dow Jones Industrial Average (Price Return) Stock Quote
Dow Jones Industrial Average (Price Return)
^DJI
$33,911.46 (0.45%) $150.31
S&P 500 Index - Price Return (USD) Stock Quote
S&P 500 Index - Price Return (USD)
^GSPC
$4,298.55 (0.43%) $18.40

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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