reserveIt seems the word ‘patient’ is worth a lot of money these days.

On a regular basis, the Chairperson of the U.S. Federal Reserve releases a policy statement and holds a press conference to detail its economic outlook and attendant monetary policy.  Investment markets eagerly anticipate these events as they give some indication on the direction of interest rates, money supply, liquidity, and general economic trends as seen by the Federal  Reserve.

In general, investors are interested in this information because they will adjust their investment portfolio weightings between bonds, stocks, and cash based on this information.  If, for example, the federal reserve indicates that the state of the economy, as they see it, mandates an interest rate increase to, say, subdue inflationary pressure, investors will be more attracted to fixed income investments because they will begin to offer a higher rate of return.  They will tend to increase their portfolio weight of fixed income and decrease their weight of equities over time to better position themselves on expected monetary policy.

Unfortunately, the immediate reaction of investors to these statements also tends to the absurd.  Take the most recent statement issued this past Wednesday March 18th.  In it, the Chairperson of the Federal Reserve, Janet Yellen,  basically restated its past view that the U.S. economy was generally healthy, on an improving trend,
and would require an increase in interest rates at some point in the future to moderate inflationary pressure from stimulated economic growth.  The era of low interest rates, therefore, would gradually come to an end at some point in the future.

However, this month she inserted the word ‘patient’ in describing how the Federal Reserve would move on interest rates.  Equity Investors and short term traders reacted with unbounded optimism in a belief that the interest rate hikes would be delayed longer than anticipated, making equities still a good investment relative to fixed income.  The equity markets rallied sharply over the matter of a few minutes and the U.S. dollar dropped materially – the weekly gain in the equity markets surged.

So, how much is a word worth?  It appears the word ‘patient’ tallied up to be worth a number in the billions of U.S. dollars.

Has anything really changed?  Not really.  Nevertheless, traders created a huge opportunity for themselves and others to gain in the short term simply from a ‘running with the bulls’.  These are the sort of short-term emotional moves that create money-making opportunities for value investors over the long term.  In this case, the move was upward, but they can often also be downward.

If a value investor has done their homework and knows the relative equity potential of their investment based on cash flow, business prospects, management capabilities, market share, and so on, all within the context of an outlook for the economy, such emotional swings should be used to increment returns over the very short term.  They should not alter the long term holdings in their portfolios.  Let the traders and speculators attach a price to a word, and focus on building long term returns.