The greatest monetary tools that Central Banks currently possess are “promises.”
Indeed, a review of various markets’ reactions to Central Bank verbal interventions over the last few years quickly reveals that promises of additional monetary policy produce far greater results than the actual monetary policies themselves!
Consider the bond market’s reactions to the Fed’s QE 2 and Operation Twist programs.
Below is a chart showing the performance of the 10-Year Treasury. Periods in which the Fed was actively engaged in QE or Operation Twist are white. Periods in which the Fed was hinting at or promising additional policies are in green.
Note that the largest bond rallies (meaning yields fell) occurred during periods in which the Fed was PROMISING to do more, as opposed to actually DOING anything.
The Fed is not the only Central Bank to realize that promising to do more has a greater impact than actually doing anything.
The same policy has served Japan well in the past.
It was the promise of a huge QE that produced the massive 84% gain in the Nikkei from mid 2012 to April 2013. Once the QE program was actually launched, the Nikkei general traded sideways, advancing a mere 7% until the Bank of Japan increased the program in October 2014.
Once again, the promise of action produced greater market response that the actual action itself!
The same concept has worked for the ECB too.
Mario Draghi promised to do “whatever it takes” in July 2012. Stocks erupted higher. Once the ECB actually implemented its Negative Interest Rate Policy (NIRP) and QE programs in June 2014 and January 2015, respectively, stocks traded sideways.
In simple terms, promises produce the largest results. However, like anything else, each time a Central Bank trots out a promise, the market reacts less and less.
Indeed, despite recent promises to do more by the Bank of Japan, the Nikkei is rapidly losing momentum.
The same is happening in Europe.
The US is in the worst position. There the Fed is now tightening rather than promising to ease.
Take note, the above charts signal that the bull markets of the last six years are ending. The markets are primed for another Crash, just as they were in 2000 and 2007.
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Best Regards
Graham Summers
Chief Market Strategist
Phoenix Capital Research