You could be forgiven for missing the latest installment of market panic over the past ten days. It came and went like a summer thunderstorm — passing over the global financial landscape quickly and violently. But unlike meteorological events that inflict actual harm, the sharp gyrations of financial markets have increasingly less relationship to real-world economies and exist in their own never-never land of self-fulfilling prophecies and conventional wisdom.
The proximate cause of the swoon was June’s monthly statement from the Federal Reserve and Ben Bernanke’s comments that the Fed might taper its purchases of bonds sooner than many market players had anticipated. The exact quote wasn’t exactly dramatic (so few Fed quotes are!):
“The Committee currently anticipates that it would be appropriate to moderate the monthly pace of purchases later this year. And if the subsequent data remain broadly aligned with our current expectations for the economy, we would continue to reduce the pace of purchases in measured steps through the first half of next year, ending purchases around midyear.”
The hint that the Fed would slow or even halt its monthly purchases of $85 billion of government and mortgage bonds was enough to send bond yields substantially higher and stocks substantially lower. It also made market bears substantially cockier. The most notable example was the ever-opinionated Rick Santelli on CNBC whose weekly rant took Bernanke to task not just for how he communicates, but for soft-pedaling the weak and tenuous U.S. and global financial system.
The bond market response was particularly dramatic. Yields on U.S. 10-year Treasuries went from just over 2 percent to 2.6 percent, still historically low but a substantial move in a short time. Emerging market bonds were even more eviscerated, and the ripple effects for pension funds and retirement accounts will be felt for some time as the value of supposedly safe bond holdings declined as much or more than supposedly riskier stocks.