Markets Prefer Certainty

Amidst the continuous stream of news and recent market fluctuations, a dash of certainty was injected into stocks and bonds with this week’s Federal Reserve meeting. If only for a day.

Several factors are at work –

  • interest rates, per the US Fed
  • future government spending policy
  • rates of employment
  • market valuations

among other factors.

A dash of certainty was injected into stocks and bonds with this week’s Federal Reserve meeting. If only for a day.

Stock and bond markets react to certainty and uncertainty – and tend to prefer certainty – hence the brief bump up in prices on Wednesday. Uncertainty is when markets – comprised of investors and traders – do not know what to expect in terms of interest rates, strength of the economy or government taxation and spending policy. Markets can “tread water” (meaning remain within a range) amidst uncertainty, and often err on the downside. Conversely, certainty is created when announcements by “people in charge” clarify policy.

Market certainty can be created in several forms, among these:

  • Economic and tax policy voted into law by Congress and the President
  • Announcements from the Federal Reserve regarding interest rate policy
  • Election outcomes
  • Corporate earnings and economic statistics (although these fluctuate a fair amount)

Certainty can lead to short-term positive moves in stocks and bonds; and depending on the eventual policy can lead to subsequent declines. The current situation, even after the US Fed meeting this week, contains the risk of more uncertainty than certainty.

The only certain thing is today: interest rates are low and for a prolonged period of years these low rates have boosted stocks. After this week’s Federal Reserve announcement there is the future possibility of higher rates with the “when” and “how” TBD, or yet to be determined. There is much controversy (read: uncertainty) as to what will happen next.

In that case, control what is controllable to create your own certainty: asset allocation, levels of cash and certain parts of discretionary spending.

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