June 30th has come at last and that means an end of additional capital injections by the Fed. What the discontinuation of quantitative easing measures means is that the Federal Reserve will no longer add additional capital to the liquidity of the global monetary system, although we have been put on notice that the current level of capital will stay there. This means that as treasuries and other assets mature and are repaid, the Federal Reserve will take those proceeds and reinvest them in other bonds, it is important to point out that there won't be new money coming on line under this program.
IS THE PROPELLANT GONE?
Bears argue that the economy and markets are simply being fueled by these overt actions by the Federal Reserve to "goose" the system, and without new rocket propellant to move the market higher and higher, we'll see a collapse without the stimulus for higher stock and asset prices. We don't know if that is truly the case, but we do know that the Federal Reserve is stuck in a box of its own making. They have created a "liquidity bubble" that has elevated the price of financial assets and hard assets like commodities near two year highs. The Fed has also forced treasury rates to historic lows. Time will tell if these levels can hold.
Beyond asset pricing, QEII serves another purpose. QE II serves as a way for the US government to manage its interest cost. By selectively purchasing bonds in the open market the Fed manipulates the overall pricing of bonds to keep interest rates low. Without QE II in place, what will happen to interest rates? Look at how TLT (20 Yr Treasury) has performed over the last couple of days in anticipation of lower bond prices.
TLT (100 Day)
WHAT DO BOXERS AND QUANTITATIVE EASING HAVE IN COMMON?
I grew up in the great days of boxing in the mid 70's and early 80's. Some of my most memorable childhood memories involved watching boxing with my Step-Father. I recall going to see many local boxing matches which included Olympian superstars. Remember Sugar Ray Leonard, Marvin Haggler, and Larry Holmes? These were greats that I grew up watching. After years of being a boxing fan, one thing is clear, boxers never really retire. If the paycheck is large enough or economic conditions of the fighter bad enough, they always have one more fight left. In a similar way, QE has been so successful in achieving its goals that the Fed must see it as one of their greatest instruments to combat deflation. While QE I and QE II sport amazing records and their heydays are past, they may be called up to fight another match in the near future.
If Treasury bond prices move significantly lower (yields higher) or stock markets fall appreciably we will absolutely see a return of QE. While the Fed has many remaining tricks up their sleeve, QE is one that has immediate results. QE is truly one of their favorites. As a market participant that feels strongly that the invisible hand of government should get out of the stock markets I am not sad to see QE go. Unfortunately I can say with great confidence that QE will be back for at least one more bout; great fighters never go gracefully.
Photo by Cliff1066 - http://www.flickr.com/photos/nostri-imago/with/2872463375/
GOATMUG
Goatmug is an investor that cares about you and your family. Goatmug's Blog - Financial Perspectives From The Mountain Top is a collection of thoughts on our economy and how it impacts the lives of investors and average people. While several specific investments are named in many of his posts, these articles are simply invitations for you to do your own research and reference to these securities does not constitute financial advice. Your situation is complex and unique and you should seek professional assistance with your trading and investing. Please visit Goatmug and share your comments at http://www.goatmug.blogspot.com/
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