It's been a market adage for as long as I've been in the City that you don't “fight the Fed”. The above evidence, on the face of it, suggests a broader adage may be more appropriate, that “tightening means trouble”, or at least that you shouldn't “fight the feds”. Of course, how to judge the stance of policy over that whole long-term is easier said than done, because life wasn't always as simple-sounding as merely looking at the real Fed funds target rate and the slope of the yield curve: there hasn't even always been a Fed to look to for guidance, if you go back far enough. There may not always have been a US Central Bank, but there was plenty of Interventionism from the Congress and from the Executive with respect to economic policy making, and there was certainly at least a passing correlation between contractionary/expansionary policy acts on the one hand and the economy/stock-market on the other.

Back to 2013 – what does the past suggest about the Fed's current balance sheet predicament? Over the long run, it's clear that the stance of policy and the state of the real economy are related. The size of the Fed's current balance sheet is in unchartered territory in nominal terms and equalled only once in its history during the Great Depression (never a happy parallel to draw) when looked at relative to the size of the US economy. These are sobering thoughts when it comes time to make any kind of prediction regarding where the Fed's balance sheet might go in the future, and what might happen to markets as we progress. In short, the first-order approximation of the past is that “tightening means trouble”.

Despite the sobering long-run history, I think this time can be different in the US This time, though, I think things can be different. Well, at least a bit different. To be a bit more precise, I don't believe we are staring at the “Great Crash of 2013” (or '14). There are two key reasons why. First, the US is at the centre of the current system, not at its periphery (as it was in the nineteenth century) –QT will be endogenously decided and regulated by US policy-makers, not exogenously imposed by foreigners. And, second, time is still on policymakers' side. Unless something goes wrong with respect to inflation in the next two years, policy-makers probably have time on their side in terms of dealing with the balance sheet issue. I'm sure this means the Fed balance sheet will stay bigger and for longer than you might think, by the way – we're not even done with QE3/4 just yet and that is increasing the balance sheet size at the rate of $85bn a month.

Eoin Treacy's view As investors pour over the minutes of the March FOMC meeting a number of points are worth considering. The Fed has increased the size of its balance sheet considerably over the last five years. The Bank of England, ECB, SNB, BoJ, PBOC and a number of other central banks have followed similar strategies. This has resulted in literally trillions of Dollars being created and has helped fuel medium-term bull markets across risk assets. Two of the primary reasons such extraordinary measures were deployed were to avoid a banking collapse and ensuing severe deflationary economic environment.

It therefore stands to reason that these aims are still important to central banks. So how healthy are banks and what type of indicator does the Fed give weight to in its measuring of growth and inflation potential?

The S&P500 Banks Index has held a progression of higher reaction lows since late 2011 and hit a new four-year high in March. If found support in the region of 167 on Friday and a sustained move below that level would be required to question medium-term scope for continued higher to lateral ranging.

AIG was among the biggest risk takers ahead of the crisis and represented one of the largest bailouts in history when the Fed felt obliged to intervene. While the peak near $1266 might take a lifetime to revisit, the share has also held a progression of higher reaction lows since late 2011 and broke out of its most recent short-term range yesterday. A sustained move below the 200-day MA, currently near $35, would be required to question potential for additional higher to lateral ranging.

The financial sector is no longer in crisis mode, has paid the Fed back the majority of emergency loans and an increasing number of institutions are increasing their dividends. Concurrently, housing market activity has increased to a level where people are no longer talking about a crash and focus instead on recovery potential. On this performance it is probably safe to conclude that aiding the financial sector is no longer a top priority for the Fed.

Velocity of Money is reported quarterly in arrears so it cannot be considered a lead indicator, but it is nonetheless reflective of the Fed's motivation in maintaining an easing bias. The measure hit a new 55-year low when last reported. Banks rebuilding balance sheets, corporations accumulating cash reserves, consumers saving, the squeezing of the middle classes and more recently higher than average unemployment have contributed to the collapse of the velocity of money since its 1997 peak.

The Fed is unlikely to begin to even think about removing stimulus until after it has evidence that growth has become self-sustaining. The question then is to what degree it will add more liquidity in order to achieve this goal.

Earlier this year, the FOMC highlighted the unemployment rate as a metric they wish to see improve in order to contemplate a deceleration and eventual end to the addition of more liquidity. I have not seen a mention anywhere of reducing the overall size of the Fed's balance sheet. Here is a quote from today's report:

“thought that if the outlook for labor market conditions improved as anticipated, it would probably be appropriate to slow purchases later in the year and to stop them by year-end”

The corollary is that if the labour market does not improve to their liking, the pace of Fed purchases will persist and could even increase. The S&P500 Index hit a new all-time high today and while still somewhat overbought relative to the 200-day MA a sustained move below Friday's lows near .1539, would be required to check momentum.