Wednesday, June 9, 2010

Federal Reserve Beige Book

Eight times a year, the Federal Reserve formally comments on current economic conditions in a report commonly called the Beige Book (so named based on the color of its cover). It contains information gathered by each of the twelve Federal Reserve districts, and contains one national summary from the district reports. The book centers on conversations and Fed interpretations of economic data, and tries to provide a broad view of the economy. Topics typically include inflation pressures, housing, and employment data which will be used as a starting point for discussion at the next Federal Reserve meeting (usually two weeks after the Beige Book release). Investor reaction to the Beige Book is typically fairly subdued, but there are usually Fed hints present for those able to read through the lines.

Investor reaction is often quiet because of the absence of data in the report, but interest rate and Fed watchers can definitely comb through the report for hints. For instance, today’s report showed that all twelve districts reported an increase in growth. However, they were careful to say that the growth would be very “modest.” They do not want to put themselves in a place where investors perceive a hike in interest rates due to the expectation of stronger growth in the future. This was also backed by Chairman Bernanke’s congressional testimony today that policy makers would keep borrowing costs near zero for an “extended period.”

It is also worth noting that today’s report showed that labor conditions are slightly improving, consumer spending and tourism increased, and capital spending by businesses was edging up. These economic improvements are good news, especially in the capital spending area as it is one of our main investment themes in the U.S., but you can tell that the Fed does not want to cut off growth prematurely. Many businesses in the districts are still on high alert due to possible fallout from the European debt crisis, and even Bernanke himself testified that the Fed remains “highly attentive” to those risks. In fact, the implied probability is for short-term interest rates to stay at 0% until the January 2011 Fed meeting, at which point the odds of the Fed remaining on hold fall to only 47%.