Global Macro: Life Without Fed Support

TheStreet.com

NEW YORK (TheStreet) -- The September Federal Open Market Committee meeting will be this week and months of speculation over stimulus cuts will finally be priced into markets.

Investors expect a cut in the Federal Reserve bond-buying program, and the amount of the cut is what will move markets. The expectation sits at around a $10-$15 billion cut from the current $85 billion monthly purchases of Treasuries and mortgage-backed securities. If the Fed deviates from this path by a large margin, it should spur heavy volume of bond buying or selling.

The chart below is of iShares Barclays 20+ Year Treasury Bond . The long-dated Treasury has sold off heavily since its peak in May as investors have come to terms with higher interest rates and sold off bonds to the point that a stimulus cut is now expected.

The yield curve has returned to levels that are not as completely under the control of the Fed, as they once were when the 10-year rate was under 2%.

As the economy continues to improve and fundamentals remain strong, rates should maintain a rise toward levels justified by a positive economic outlook.

The next chart is of iPath S&P 500 VIX ST Futures ETN . The volatility index has fallen to lows as equity markets sit at record highs.

The idea that higher interest rates are justified by a stronger economy has helped improve investors' sentiment. This week, however, the uncertainty of just how large the Fed plans to reduce bonds purchases could lead to a spike in the index.

Low interest rates were the reason that assets such as equities and commodities reached the levels they are at in the first place. Although there may be a near-term correction due to a reduction in stimulus, a stronger economy should make the transition to life without Fed intervention easier.

If the economy continues to improve at a steady pace and investors continue to find value, then the long-term trend for equity indexes should be higher.

At the time of publication the author had no position in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

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