29 October 2014 – The Aleph Blog

Redacted Version of the October 2014 FOMC Statement

Posted on 29 October 2014 by David Merkel

September 2014	October 2014	Comments
Information received since the Federal Open Market Committee met in July suggests that economic activity is expanding at a moderate pace.	Information received since the Federal Open Market Committee met in September suggests that economic activity is expanding at a moderate pace.	No change. This is another overestimate by the FOMC.
On balance, labor market conditions improved somewhat further; however, the unemployment rate is little changed and a range of labor market indicators suggests that there remains significant underutilization of labor resources.	Labor market conditions improved somewhat further, with solid job gains and a lower unemployment rate. On balance, a range of labor market indicators suggests that underutilization of labor resources is gradually diminishing.	Shades their view of labor use up.? More people working some amount of time, but many discouraged workers, part-time workers, lower paid positions, etc.
Household spending appears to be rising moderately and business fixed investment is advancing, while the recovery in the housing sector remains slow.	Household spending is rising moderately and business fixed investment is advancing, while the recovery in the housing sector remains slow.	Shades up household spending a little.
Fiscal policy is restraining economic growth, although the extent of restraint is diminishing.		Finally dropped this bogus statement.
Inflation has been running below the Committee’s longer-run objective. Longer-term inflation expectations have remained stable.	Inflation has continued to run below the Committee’s longer-run objective. Market-based measures of inflation compensation have declined somewhat; survey-based measures of longer-term inflation expectations have remained stable.	Shades their forward view of inflation down.? TIPS are showing slightly lower inflation expectations since the last meeting. 5y forward 5y inflation implied from TIPS is near 2.35%, down 0.18% from September.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.	Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability.	No change. Any time they mention the ?statutory mandate,? it is to excuse bad policy.
The Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace, with labor market indicators and inflation moving toward levels the Committee judges consistent with its dual mandate.	The Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace, with labor market indicators and inflation moving toward levels the Committee judges consistent with its dual mandate.	No change.? They can?t truly affect the labor markets in any effective way.
The Committee sees the risks to the outlook for economic activity and the labor market as nearly balanced and judges that the likelihood of inflation running persistently below 2 percent has diminished somewhat since early this year.	The Committee sees the risks to the outlook for economic activity and the labor market as nearly balanced. Although inflation in the near term will likely be held down by lower energy prices and other factors, the Committee judges that the likelihood of inflation running persistently below 2 percent has diminished somewhat since early this year.	CPI is at 1.7% now, yoy.? They shade up their view down on inflation?s amount and persistence.
The Committee currently judges that there is sufficient underlying strength in the broader economy to support ongoing improvement in labor market conditions.	The Committee judges that there has been a substantial improvement in the outlook for the labor market since the inception of its current asset purchase program.	No change.
In light of the cumulative progress toward maximum employment and the improvement in the outlook for labor market conditions since the inception of the current asset purchase program, the Committee decided to make a further measured reduction in the pace of its asset purchases. Beginning in October, the Committee will add to its holdings of agency mortgage-backed securities at a pace of $5 billion per month rather than $10 billion per month, and will add to its holdings of longer-term Treasury securities at a pace of $10 billion per month rather than $15 billion per month.	Moreover, the Committee continues to see sufficient underlying strength in the broader economy to support ongoing progress toward maximum employment in a context of price stability. Accordingly, the Committee decided to conclude its asset purchase program this month.	Finally ends QE, for now.
The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction.	The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction.	No change
The Committee’s sizable and still-increasing holdings of longer-term securities should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative, which in turn should promote a stronger economic recovery and help to ensure that inflation, over time, is at the rate most consistent with the Committee’s dual mandate.	This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.	Maintains reinvestment of long-term securities, which does little to hold interest rates down, assuming that is a desirable goal.
The Committee will closely monitor incoming information on economic and financial developments in coming months and will continue its purchases of Treasury and agency mortgage-backed securities, and employ its other policy tools as appropriate, until the outlook for the labor market has improved substantially in a context of price stability.		Finally ends a useless paragraph.
If incoming information broadly supports the Committee’s expectation of ongoing improvement in labor market conditions and inflation moving back toward its longer-run objective, the Committee will end its current program of asset purchases at its next meeting.		Deletes sentence
However, asset purchases are not on a preset course, and the Committee’s decisions about their pace will remain contingent on the Committee’s outlook for the labor market and inflation as well as its assessment of the likely efficacy and costs of such purchases.		Deletes sentence
To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that a highly accommodative stance of monetary policy remains appropriate.? In determining how long to maintain the current 0 to 1/4 percent target range for the federal funds rate, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments.	To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate. In determining how long to maintain this target range, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments.	Highly accommodative monetary policy is gone ? but a super-low Fed funds rate remains.? Policy normalizes, sort of, but no real change.
The Committee continues to anticipate, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends, especially if projected inflation continues to run below the Committee’s 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.	The Committee anticipates, based on its current assessment, that it likely will be appropriate to maintain the 0 to 1/4 percent target range for the federal funds rate for a considerable time following the end of its asset purchase program this month, especially if projected inflation continues to run below the Committee’s 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.	No change.? Its standards for raising Fed funds are arbitrary.
	However, if incoming information indicates faster progress toward the Committee’s employment and inflation objectives than the Committee now expects, then increases in the target range for the federal funds rate are likely to occur sooner than currently anticipated. Conversely, if progress proves slower than expected, then increases in the target range are likely to occur later than currently anticipated.	Tells us what we already knew.
When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent.	When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent.	No change.
The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.	The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.	No change.
Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Stanley Fischer; Narayana Kocherlakota; Loretta J. Mester; Jerome H. Powell; and Daniel K. Tarullo.	Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Lael Brainard; Stanley Fischer; Richard W. Fisher; Loretta J. Mester; Charles I. Plosser; Jerome H. Powell; and Daniel K. Tarullo.	Fisher and Plosser dissent.? Finally some with a little courage.
Voting against the action were Richard W. Fisher and Charles I. Plosser. President Fisher believed that the continued strengthening of the real economy, improved outlook for labor utilization and for general price stability, and continued signs of financial market excess, will likely warrant an earlier reduction in monetary accommodation than is suggested by the Committee’s stated forward guidance. President Plosser objected to the guidance indicating that it likely will be appropriate to maintain the current target range for the federal funds rate for “a considerable time after the asset purchase program ends,” because such language is time dependent and does not reflect the considerable economic progress that has been made toward the Committee’s goals.	Voting against the action was Narayana Kocherlakota, who believed that, in light of continued sluggishness in the inflation outlook and the recent slide in market-based measures of longer-term inflation expectations, the Committee should commit to keeping the current target range for the federal funds rate at least until the one-to-two-year ahead inflation outlook has returned to 2 percent and should continue the asset purchase program at its current level.	Send Mr. Kocherlakota a chill pill, and ask him to review how badly the FOMC forecasts, and how little effectiveness monetary policy has had for the good in the US.? He just wants to create another bubble, along with the rest of the doves.

Comments

Pretty much a nothing-burger. Few significant changes, if any.? Yes, QE ends, but who didn?t expect that?
Despite lower unemployment levels, labor market conditions are still pretty punk. Much of the unemployment rate improvement comes more from discouraged workers, and part-time workers.? Wage growth is weak also.
Equities flat and long bonds rise. Commodity prices are down.? The FOMC says that any future change to policy is contingent on almost everything.
Don?t know they keep an optimistic view of GDP growth, especially amid falling monetary velocity.
The FOMC chops some ?dead wood? out of its statement. Brief communication is clear communication.? If a sentence doesn?t change often, remove it.
In the past I have said, ?When [holding down longer-term rates on the highest-quality debt] doesn?t work, what will they do? I have to imagine that they are wondering whether QE works at all, given the recent rise and fall in long rates.? The Fed is playing with forces bigger than themselves, and it isn?t dawning on them yet.
The key variables on Fed Policy are capacity utilization, labor market indicators, inflation trends, and inflation expectations. As a result, the FOMC ain?t moving rates up, absent improvement in labor market indicators, much higher inflation, or a US Dollar crisis.

Book Review: Berkshire Beyond Buffett

Posted on 29 October 2014 by David Merkel

It’s time to change what Warren Buffett supposedly said about his mentors:

“I’m 85% Ben Graham, and 15% Phil Fisher.”

For those who don’t know, Ben Graham is regarded to be the father of value investing, and Phil Fisher the father of growth investing. ?Trouble is, Warren Buffett changed in his career such that this is no longer accurate. ?Most of Buffett’s economic activity does not stem from buying and selling?portions of public companies, but by buying and managing whole companies. ?Buffett is the manager of a conglomerate that uses insurance reserves as a funding vehicle.

As a result, this would be more accurate about the modern Buffett:

Buffett is?70% Henry Singleton,?15% Ben Graham, and 15% Phil Fisher.

Henry Singleton was the CEO of Teledyne, a very successful conglomerate, and one of the few to do well over a long period of time. ?It is very difficult to manage a conglomerate, but Teledyne survived for around 40 years, and was very profitable. ?Buffett thought highly of Singleton as a allocator?of capital, though the conglomerate that Buffett created is very different than Teledyne.

Tonight, I am reviewing a book that describes Buffett as a manager of a special conglomerate called Berkshire Hathaway [BRK] — Berkshire Beyond Buffett. ?This Buffett book is different, because it deals with the guts of how Buffett created BRK the company, and not the typical and misleading Buffett as a value investor.

Before I go on, here are three articles that could prove useful for background:

Buffett?s Career in Less Than 1000 Words, and
The Forever Fund?– deals with the Burlington Northern Acquisition, and Buffett’s efforts to create a firm that will thrive long after he is gone.
On the Structure of Berkshire Hathaway?– describes how the insurance enterprises, particularly National Indemnity, own and fund many of the industrial subsidiaries.

The main point of Berkshire Beyond Buffett is that Buffett has created a company that operates without his detailed oversight. ?As a result, when Buffett dies, BRK should be able to continue on without him and do well. ?The author attributes that to the ethical values that Buffett has?selected for when acquiring companies. ?He manages to cram those values into an acronym BERKSHIRE.

I won’t spoil the acronym, but it boils down to a few key ideas:

Do you have subsidiary managers who are competent, ethical, and love nothing better than running the business? ?Do they act as if they are the sole proprietors?of the business, and act only to maximize its long-term value consistent with its corporate culture? ?These are the ideal managers of BRK subsidiaries.
Acquiring such companies often comes about because a founder or significant builder of the company is getting old, and there are family, succession, taxation, funding or other issues that being a part of BRK would solve, allowing the management team to focus on running the business.
Do the businesses have sustainable competitive advantages in markets that are likely to be relevant several generations from now?

The beauty of a company coming under the Berkshire umbrella is that Buffett leaves the culture alone, and so long as the company is producing its profits well, he continues to leave them alone. ?Thus, the one selling a company to Buffett gets the benefit of knowing that the people and culture of the company will not change. ?In exchange, Buffett does not pay top dollar, but gets deals done faster than almost anyone else.

This is a very good book, and its greatest strength is that it talks about Berkshire Hathaway the company as built by Buffett to endure. ?If you want to understand?Buffett’s corporate strategy, it is described ably here.

Quibbles

Now, my three ideas above?*might* have been a better way to organize the book, rather than the hokey BERKSHIRE. ?Also, a lot more could have been done with the insurance enterprises of BRK, which are a critical aspect of how the company owns and finances many of the other subsidiaries.

But will BRK do so well without Buffett? ?Yes, his loyal son Howard will guard the culture. ?The Board is loyal to the ethos that Buffett has created. ?Ted Weschler and Todd Combs will continue to invest the public money. ?The all-star subsidiary managers will soldier on, at least in the short-run.

But will the new CEO be the person that “you don’t want to disappoint,” as some subsidiary managers think of Buffett? ?As a result, how will BRK deal with underperformers? ?What new structures will they set up? ?Tracy Britt Cool is smart, but will BRK need many like her, and how will they be organized?

Will he be a great capital allocator? ?Will he maintain the “hands off” policy toward the culture of subsidiaries, or will the day come when some centralization takes place to save money?

Will Buffett’s replacement be equally intuitive with respect to acquisition prices, and sustainable competitive advantage?

Buffett’s not perfect — he has had his share of errors with textiles, shoe companies, airlines, Energy Future, and a variety of other investments, but his record will be tough to match, even if replaced by a team of clever people. ?Say what you will, but teams are not as decisive as a single manager, and that may be a future liability of BRK.

Summary / Who Would Benefit from this Book

Most people will not benefit from this book if they are looking for a way to make more money in their life. ?There are no magic ways to apply the insights of the book for quick gains. ?Also, readers are unlikely to use Buffett’s “hands off” methods in building their own conglomerate. ?But readers will benefit because they will get to consider the building of the BRK enterprise from the basic principles involved. ?There will be?indirect benefits as they analyze other business situations, perhaps using BRK as a counterexample — a different way to acquire and run a large enterprise.

But as for getting any direct benefit from the book? There’s probably not much, but you will understand business better at the end. ?If you still want to buy it, you can buy it here:?Berkshire Beyond Buffett: The Enduring Value of Values.

Full disclosure:?I?received a?copy from the author?s PR flack.

If you enter Amazon through my site, and you buy anything, I get a small commission.? This is my main source of blog revenue.? I prefer this to a ?tip jar? because I want you to get something you want, rather than merely giving me a tip.? Book reviews take time, particularly with the reading, which most book reviewers don?t do in full, and I typically do. (When I don?t, I mention that I scanned the book.? Also, I never use the data that the PR flacks send out.)

Most people buying at Amazon do not enter via a referring website.? Thus Amazon builds an extra 1-3% into the prices to all buyers to compensate for the commissions given to the minority that come through referring sites.? Whether you buy at Amazon directly or enter via my site, your prices don?t change.

Full Disclosure: long BRK/B for clients and myself