The Fed hike came and went, and showed investors that a surprise that is anticipated is no surprise at all. When there's too much noise, it's best to ignore it
Now, when the US Federal Reserve's long-anticipated turnaround on interest rates is behind us, it's easy to be optimistic about its immediate effects on the financial markets. Precious little happened, and whatever did was just a weak version of whatever had been predicted. Dire predictions of immediate collapse were belied around the globe, except in assets like US bonds, which have a direct relationship with US interest rates.
After seven long years at a near zero level, US interest rates are finally heading up. The idea behind the doom saying was that emerging market stocks are held up by the vast amount of almost free money that is being poured into the global economy by the US central bank. When the flow of free money is turned off, then asset prices that were boosted up by it will surely reverse direction.
After all, there is a precedent for this. Back in mid-2013, when the then Fed Chairman Ben Bernanke first hinted at shutting off the flow (the infamous 'tapering'), there was a wave of panic around the world as stocks, bonds and currencies collapsed. The rupee had a torrid time, declining by 21 percent in four months, it's slide being halted only by some emergency measures as well as the soothing presence of Raghuram Rajan moving into the corner office at the Reserve Bank. Finally, the tapering caper ended only when Bernanke backed off and postponed the taper.
The worry from that whole episode was that when the Fed finally starts to actually tighten the money, there would be carnage around the world, especially in emerging market stocks. That conclusion was obvious, yet wrong. Nothing much happened, and looking at the larger picture, nothing dire should have.
However, the right conclusion to draw from this entire episode--starting with the first talk of tapering to the actual tightening now, is not that anything is improving or worsening or on the mend but that these ups and downs will continue. Investors should treat them as nothing more than noise, and pay attention only to what they themselves have to do. The biggest bane of investors' life is to mistake noise for actual information. During events like the fed hike and the run up to it, the signal-to-noise ratio is even worse than usual. They are no worse or no better than before. Fundamentally guided investors feel that they must stay rooted to the reality of what is happening. Sometimes, this results in paying too much attention to the big picture. However, the big picture is not always relevant. Sometimes, the individual trees are more important than the forest.
Good companies are good investments in bad times too and conversely, bad companies are terrible investments even in apparently good times. Back in 2006 and 2007, when it seemed that little could ever go wrong with the India story, many of us enthusiastically invested in those infra and real estate names that turned out tobe worthless. That's because the noise convinced us that the good times would continue. Now, in the weeks preceding the Fed reversal, the noise may have convinced you to do the opposite. Neither makes much sense.
It's no one's case that these events do not have any impact. However, it's impossible for the individual investor to map them sensibly to any action that they can take. We've had a string of these alarms over the last few years, emanating from various crisis around the globe. There's none where the obvious response has eventually proven to be anything but a counterproductive kneejerk reaction. Eventually, this reversal--and the changes driving it--will also play out one way or another. But for the time being, there's nothing to do but ignore the noise.