/https://media.cnbc.com/dims/origin/108343257/Spider-Man-Brand-New-Day.jpg "Spider-Man Smashes Box Office Records with ‘Brand New Day’ Preview Haul")
Wall Street is grappling with a new era of communication from the Federal Reserve under Chairman Kevin Warsh, characterized by less forward guidance. In response, some investment firms are turning to artificial intelligence, like F/m Investments’ “WarshGPT,” to analyze Fed communications and predict monetary policy decisions.
This shift towards concise communication has led to increased market uncertainty, prompting financial institutions to develop new tools and strategies to gain insights into the Fed’s future actions. The move away from detailed statements and forward guidance may create opportunities for sophisticated investors but poses challenges for ordinary traders.
Wall Street is adapting to a significant shift in the Federal Reserve's communication strategy under Chairman Kevin Warsh. Many investment firms are bracing for less public guidance from the central bank, leading some to explore innovative solutions, including artificial intelligence, to decipher the Fed's intentions.
F/m Investments, located a short distance from the Federal Reserve's headquarters, is one such firm. CEO Alexander Morris has found the effective distance to the Fed growing due to Chairman Warsh's overhaul of forward-looking communication since taking the helm in May. Morris's firm, which manages ETFs tied to inflation and U.S. Treasurys, relies on predicting the Fed's interest rate decisions. "We've made a pretty good business out of decoding Fedspeak," Morris stated, referring to the jargon-heavy language typically used by central bank leaders. "And he just said he was going to go quiet on us."
In response to this new communication landscape, F/m Investments launched "WarshGPT." This AI-powered tool analyzes nearly 1,800 documents and transcripts from Warsh, aiming to help users understand his potential analysis of economic and monetary policy issues. This initiative highlights a broader trend among financial institutions seeking an edge in investing through AI as the Fed reduces its public forecasting.
Gary Richardson, a former Fed historian and now an economics professor at the University of California, Irvine, commented on the situation: "Whether the Fed is providing a lot of information or a little information, investors have to understand what the Fed is likely to do in the future. With limited information, people are going to try to do anything they can to figure out what the Fed is thinking."
The communication style of former Chairman Alan Greenspan is being revisited as a potential baseline for expectations under Warsh. During Greenspan's tenure, market participants humorously noted that even a simple greeting could impact the market. The infamous "briefcase indicator" was even developed, suggesting that a bulkier briefcase meant Greenspan had evidence supporting a change in borrowing costs.
Warsh has been explicit about his intention to reshape the Fed's communication. One of his task forces is dedicated to this very purpose. A CNBC analysis of the June Federal Reserve meeting statement, the first under Warsh, revealed it contained approximately 130 words, a significant reduction from the over 300 words seen in prior statements. Warsh acknowledged the statement was intentionally "shorter" and "simpler," deliberately omitting forward guidance.
Further illustrating the shift, Warsh allocated only 5% of sentences to policy-relevant topics in his first post-decision press conference as chairman, according to UBS. This contrasts sharply with the 27% average seen in meetings under his predecessor, Jerome Powell.
Greetings and briefcase sizes
Investors and Fed watchers have wondered if former Chairman Alan Greenspan's communication style can serve as a baseline for what to expect under Warsh.
In that era, Richardson said people joked that Greenspan simply saying "good evening" could cause a market decline. Financial media tracked a so-called briefcase indicator, which operated on the theory that Greenspan carrying a bulkier bag meant he accumulated evidence for why borrowing costs should be altered.
'One word can move dollars'
F/m Investments' WarshGPT chatbot cost less than $1,000 to build with Anthropic's Claude model, despite the name being a riff on rival OpenAI's ChatGPT. It took roughly two weeks to create from inception to release, a timeframe that included pre-rollout testing by a group that included Fed alumni and newsletter writers.
In addition to Warsh's communications, the product also taps into economic and political history to ensure its responses have context. But F/m set limits to what WarshGPT can do: The bot doesn't talk as Warsh and will not offer forward statements or forecasts.
F/m isn't the only large firm reconsidering its strategies and tools for understanding a Warsh-led central bank.
UBS runs an interactive dashboard for clients to track the Fed's policy tone. It allows users to have an unbiased assessment of Warsh's commentary during meetings, according to Elena Amoruso, a strategist at the Swiss bank.
Following Warsh's debut policy meeting as chief last month, Amoruso told clients that Warsh's policy-relevant comments were "overwhelmingly hawkish." The central bank leader's stance was driven by his views on the labor market and growth, she said, in addition to the state of inflation.
"Arguably, this is the most high-value data set … in terms of how much one word can move dollars," Amoruso told CNBC.
At JPMorgan Asset Management, chief global strategist David Kelly has some backup plans if the Fed stops putting out key releases. If the central bank does away with the "dot plot," for instance, Kelly said his team will more closely mull over speeches by members of the Federal Open Market Committee — the group tasked with setting interest rates — to get a sense of how they would next vote.
To be sure, Kelly said major changes to Fed communication would likely take several months to announce and implement. He said the final decisions may not be as drastic as some expect.
"Just like the Federal Reserve says it can be patient in adjusting interest rates to the economy, we can be patient in adjusting our resources," Kelly said.
'Less clarity'
Still, investors anticipate having less forward guidance from the Fed could result in bigger market swings after policy decisions or members' public appearances. Some traders see a chance to rake in larger returns in this environment.
"If there's less communication about the reaction function, I actually think that's a negative for the economy," said Steve Friedman, a New York Fed alum who's now senior macroeconomist at MacKay Shields. However, "less clarity about what the Fed may do can actually be a source of alpha for investors if you have a robust framework for thinking about the economy and monetary policy."
If Warsh dials back public speaking engagements, Friedman said he would more closely monitor speeches from Fed Governor Christopher Waller. Friedman described Waller as a "bellwether" for the broader committee.
Waller said this week that the Fed shouldn't be focused on "fighting the last war" with inflation, but that interest rate hikes could still be on the table.
Retail traders may need to further diversify their portfolios to account for added policy uncertainty under Warsh, according to UC-Irvine's Richardson. Investment firms looking to get ahead, meanwhile, will be spending big to hire Fed alumni who can help make predictions in a lower-transparency environment, Richardson said.
There are already differing expectations forming for how the Fed will proceed with policy in the coming months.
Fed funds futures traders are pricing in an almost 59% likelihood that the central bank increases interest rates in September, according to CME's FedWatch tool. On the other hand, Kalshi traders think it's most likely that the Fed will keep rates unchanged at that meeting.
"For ordinary investors, it's already really hard for them to figure out what's going on," Richardson said. "It's going to become much harder."
