Continuing QE is both an economic and psychological drag
If we learned nothing else from yesterday's announcement that the Federal Reserve is delaying any tapering of the $85 billion-per-month bond-buying program, it is that Chairman Ben S. Bernanke is a big tease.
Anyone being honest about it would have to admit they fully expected Mr. Bernanke to announce that some tapering of the quantitative-easing program would begin this month. The concept of tapering was so forecasted so confidently over the past few months that some market watchers had already seen it through to the end of quantitative easing.
Just prior to the Fed's big no-tapering announcement Wednesday, Jennifer Vail, U.S. Bank Wealth Management's head of fixed income, predicted a $10 billion monthly reduction in bond purchases to kick off a gradual wind-down of quantitative easing.
She even specified June 2014 as the point at which the five-plus-year quantitative-easing program would finally conclude.
Then, boom! Just as everyone expected Mr. Bernanke to start limiting access to the proverbial punchbowl otherwise known as cheap money, he pulls a gotcha and the financial markets go bananas with glee.
All is wonderful, it seems, as stock, bond and gold prices spike while the dollar takes a nose dive in a silent nod to anyone fretting about all that pesky U.S. debt.
So, why all the gloomy comments and frowning symbols at the end of texts and e-mails I received late into the night?
Perhaps Jeff Leventhal, partner and managing director at HighTower Bethesda, summed it up best.
“The issue I see here is that if the data doesn't improve at some point, and we head in another direction, what tools will we have if we go back into another recession?” he said. “There are consequences to leaving rates too low for too long.”
In essence, responsible adults are going to worry about the very real long-term effects of a monetary policy that has pushed the Fed's balance sheet to more than $3.6 trillion and climbing.
When Mr. Bernanke first started talking publicly about specific tapering targets -- even though we know now he was just kidding -- the market had an initial reaction.
Even a slight reduction in purchasing by such a major bond-buyer as the United States government would surely have an impact on yields, and the markets adjusted accordingly.
And so, the bond market, being possibly the most efficient and forward-acting of all financial markets, was considered to be well-positioned for the tapering to begin this month.
That is until Mr. Bernanke reminded us that the economy is not as strong as he had hoped it would be at this point, so he will keep the training wheels on for a bit longer.
How much longer? That's where things start to get foggy again. If one considers the Fed's dual mandate of managing inflation and unemployment, it would be difficult to imagine any major changes this year, especially with the looming debt ceiling debate and more Washington budget battles around the next bend.
Thus, the markets charge forward, riding paradoxically high on the Fed's subtext that even after more than five years of unprecedented support, the economy is not yet strong enough to even attempt standing on its own.
“We've been doing this quantitative easing for so long that people have forgotten that it is not normal operating procedure,” said Rick Platte, co-manager of the Ave Maria Rising Dividend Fund (AVEDX).
“Tapering might have had a short-term negative impact on markets, but I wonder if it wouldn't have also been a psychological positive by showing that the economy is getting stronger,” he added. “By continuing with the meds, it just keeps reminding everyone how sick the patient is.”
