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FOMC minutes reveal that the Fed really didn’t want to taper

Brent Nyitray, CFA, MBA

The Federal Reserve usually releases a more detailed account of its Federal Open Market Committee (FOMC) meetings a month or two after the initial meeting

When the Fed meets for its FOMC meeting, it usually puts out a press release that hits the highlights of the decision and gives a brief economic synopsis. Sometimes the release is accompanied by a press conference. Analysts will usually compare the current statement with the previous one and try to divine the Fed’s thinking by noting any changes in language. The FOMC minutes of the meeting are much more in-depth and are usually 10 to 20 pages long, with graphs and a discussion of both sides of the argument. Instead of simply giving the argument for dissenters, it gives the analyst a feeling for the current discussions.

The discussion behind the surprise move

At the September FOMC meeting, the Fed surprised the market by choosing to maintain the current pace of asset purchases. The chart above shows the intraday move in the ten-year bond yield. You can see it fell like a stone on the news.

The message from the minutes was that most people didn’t think a change in policy was warranted on the basis of the latest economic data. This made sense. The Fed took down its forecasts for GDP growth and discussed its frustration with the labor market—specifically that the reason why unemployment was falling was due to a lower labor force participation rate, not job creation.

The argument for changing asset purchases was based on credibility. Many members believed that the Fed had set up the market to expect a reduction in asset purchases and if the Fed didn’t follow through, then the market would discount the guidance out of the Fed, which would increase uncertainty. That was the issue—not concerns about inflation or new asset bubbles. In fact, the Fed was disappointed at the economic data. It didn’t want to taper—but it felt like it had to.

Implications for mortgage REITs

In many ways, REITs like Annaly (NLY), American Capital Agency (AGNC), MFA Financial (MFA), Hatteras (HTS), and Redwood Trust (RWT) were given a bit of a reprieve when the Fed surprised the market. REITs found themselves over-leveraged and heavily long-duration. This made their earnings (and dividends) extremely sensitive to the drop in interest rates. The analyst community will be interested in seeing how much they de-leveraged during the last quarter.

The minutes show a Fed that doesn’t want to remove its support for the financial markets. After reading the minutes, many sell-side research firms took their estimates for a reduction in purchases from the December FOMC meeting to early 2014. For the REITs, the punch bowl may stay in place a little longer than they thought. Ironically, this whole exercise may have forced the market to believe them when they say they will be guided by the data.

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