Don’t bother reading the recent Fed minutes. I’ll save you the trouble. All of the Fed speak in there about the economy and inflation is meaningless. As I outlined last month (see “Stock Market Tail Wags Fed Dog”), the main determinant of Fed policy in recent years has not been economic data but the short-term machinations of the stock market.

During the recent five day decline of 4% in the S&P 500, we saw this yet again. The Fed Funds futures curve immediately moved from predicting the first rate hike in July out to September.

What if the current decline continues, and the S&P 500 pulls back 10%? We should expect the Futures curve to move out further, with the first rate hike occurring in October or December of 2015.

And if we see a more lasting decline this year that mirrors 2010 (-17%) and 2011 (-21%) after the end of QE1 and QE2?  Rate hikes will likely be put on hold until 2016 or later.

As for the economic cover at that point, the Fed will have plenty of excuses to work with, from slowing Europe and recessionary Japan to credit concerns in Emerging Markets.

They can also point to global “deflationary pressures” with breakeven inflation rates at their lowest level since 2009.

On the leading indicator front, they can point to the recent U.S. Composite PMI showing its slowest rate of growth in 14 months.

As crazy as it seems after six years of 0% rates, a few months from now we may not be talking about the first Fed rate hike but instead QE4.

But everyone is still saying the Fed will raise rates by the middle of the year. Right, and they said rate hikes were coming back in 2010, 2011, and 2012 too before the stock market declined. Then the dovish statements from Fed officials ensued and expectations quickly changed. We are already seeing this today after only a 4% decline with Charles Evans (Chicago Fed President) saying a move to tighten too soon would be a “catastrophe.” 

To believe that the Fed will raise rates by July is to believe that stocks will not suffer a meaningful correction between now and then. That may indeed happen but if it doesn’t and stocks go down, the playbook has been clear: a more dovish Fed, a continuation of 0% policy, and perhaps another round of QE.