ExxonMobil’s DJIA Deletion Exposes The Insignificance Of The Fed’s Latest Policy Shift

Oh well, this will be an interesting one. Really, how will the various Federal Reserve-focused economic religions explain a recent, and very high-profile deletion from the Dow Jones Industrial Average? Getting into specifics ExxonMobil, as late as 2013 the world’s most valuable company, was removed from the DJIA last week.  Its market capitalization has plummeted by $267 billion in recent years.

This would seemingly be an impossibility to the disciples of Keynes, along with Mises and Rothbard, all who claimed a “rigged” stock market of sorts these last eleven years. They made the point regularly that QE, a near zero Fed funds rate, and other Federal Reserve market interventions had placed stocks on an unending “sugar high.”

Up front, such a viewpoint was always absurd as this column has made plain from day one. Seriously, why would stock prices (that are the market’s expectation of all the dollars a company will earn over time) be boosted by the central bank borrowing trillions from banks in order to purchase Treasuries and mortgages? Talk about a non sequitur.

The religionists had their answers; none of which stood up to the most basic of scrutiny. They said that since the Fed had allegedly pushed down bond yields to such low levels, that stocks were the only place to be. It was a Fed-induced yield play. On its own such a view was perfectly ridiculous in consideration of how equities are valued, but such a view also ignored that if the argument were true, a rally in equities would have occurred in concert with a major bear market for bonds. Except that the latter never happened. Quite the opposite if anyone’s curious.

Others claimed the “creation” of dollars that never actually happened to begin with had induced a rush to equities. The problem here is that for a QE/low rate enthused investor to express this confusion in the marketplace by purchasing equities, a less confused investor would have to be able to express a similar amount of sanity in the marketplace. Translated, the various religions presumed a market of only buyers. Sorry, but there’s no such thing.

Bringing it back to ExxonMobil, if the equity rally that began in 2009 had been a Fed creation, then logic dictates a uniformity to the rally. Think about it. If company valuations were soaring not because of individual fundamentals, but because central bankers had created a bull with “money,” then logic dictates that Exxon would have had a nice run alongside the Amazon’s and Apples of the world. Except that it didn’t.

To which some Fed religionists will respond that Exxon’s economic situation has changed profoundly since 2013. Yes, precisely. Markets aren’t fooled by Fed activity that could only fool the most oblivious of investors. In reality, markets reflect reality. As Exxon’s reality changed, so did its valuation.

Exxon’s fall from grace is a reminder yet again that if the Fed had the power Keynesians, Austrians and libertarians incorrectly believe it does, the U.S. stock market would be so wrecked at this point that no one would bother commenting on it. Think about this too.

Indeed, imagine if the Fed, for being the Fed, could blithely prop up stock prices, and worse, increase their value via open market operations and rate fiddling. If so, it wouldn’t just be Exxon that would still be soaring from a “sugar high.” So would GE, which was the world’s most valuable company in the year 2000. Fed religionists have forever tied market rallies to central bank machinations, so by their illogic it seems that the list of blue chips with staying power wouldn’t just be limited to GE and Exxon. Why not AOL, or Tyco, or Enron?

Hopefully readers have by now picked up on how thoroughly destroyed U.S. equity markets would be if there were any truth to the popular view of the present that market health is a creation of the Fed. If so, the past would still stalk the present to our extraordinary economic detriment.

That’s the case because markets, like economies, gain strength from periods of weakness. You read that right. Bear markets and recessions set the stage for bull markets and booms as the mediocre and bad businesses and habits are replaced by the great and good.

Ok, so the Fed is no longer going to follow the long discredited Phillips Curve in “setting” interest rates? Really, who cares? If we ignore how incorrect the Fed’s inflation definition is to begin with, the Fed quite simply can’t alter credit conditions.

The central bank is instead merely mirroring the truth that banks are studiously avoiding risk. Yes, low central bank and commercial bank rates aren’t a sign of “easy money” as the religious believe; rather they’re a sign of very tight, risk averse bank credit. If anyone doubts this, go to a bank in search of near zero rate credit for your new business idea. You’ll leave empty handed.

Low rates from banks are the surest sign that lousy credit risks need not apply. If banks would touch anything but the lowest of risk borrowers, logic dictates that interest rates paid on deposits would be much higher. Except that they’re not.

So, the Fed will maintain low rates seemingly forever? Who cares? None of what the Fed does has any real world significance. In that real world, credit’s more than a bit difficult to attain. This is what happens when politicians lock down economic activity.

Importantly, the Fed can’t alter this truth. Thank goodness it can’t. Central planning failed murderously in the 20^th century. Why so many “free market” religions still believe credit availability is centrally planned amounts to one of life’s enduring mysteries. No. If true, the U.S. economy would be so destroyed as to not be worth discussing.