Fed transparency provides market buffer
FOMC communications curb volatility
The release of the Federal Open Market Committee meeting minutes used to be a big market mover, but in today's zero-interest-rate-policy environment, that's just not the case.
It's a more transparent world at today's Fed and by the time the minutes are released, the Fed has already tipped its hat a bit to let investors in on at least part of the secret.
FOMC communications prior to the minutes release are now more open and informative, said Federal Reserve Bank of New York economist Carlo Rosa in a report.
Additionally, the sensitivity of asset prices — particularly interest rates — to news diminishes when short-term rates hit the zero lower bound.
"Central bank communication has become increasingly transparent over the past decade," Rosa said. "This is important not only for reasons of democratic legitimacy and accountability, but also for monetary policy to be most effective."
The idea is that as long as the content of the minutes is not always completely anticipated, the release of the FOMC minutes causes market participants to revise their expectations, which is reflected in higher volatility of asset prices.
Given the size and impact of the recent large-scale asset purchase programs, transparency as provided by the Federal Reserve has come to be expected, explained Royal Bank of Scotland (RBS) mortgage-backed securities analyst Jeana Curro.
"I would add that the market is also probably less reactive given near-zero rates," Curro stated.
She continued, "That said, because the agency mortgage-backed securities market is currently dealing with impaired liquidity and elevated volatility, we still generally see market participants react to the minutes even after pre-FOMC communication."
Overall, the release of the FOMC minutes significantly affects both the volatility of asset prices and their trading volume.
Additionally, the asset price response to the minutes has declined since 2008, suggesting that greater transparency at the Fed caused the shift.
However, some industry experts are less convinced that transparency provides solid footing for investors in the bond-buying market.
Carrington Holding Company executive vice president and managing director Chris Whalen said the Fed’s mystique is not in how the information is released, but what the committee says and if they have a unified decision.
"The old days before Bernanke, the chairman was the only one speaking and now under Bernanke, all the other Fed officials are airing their views," Whalen explained.
He concluded, "I don’t know whether or not if this is a good thing for investors. It depends on how you define that. The market is certainly moving forward with or without the Fed, and that’s going to be the risk going forward."