Submitted by Mark Hanna
Courtesy of MarketMontage. View original post here.
Long time readers know one way the Federal Reserve telegraphs its moves is to use certain members of the media to grease the skids. I’ve long held the theory that more quantitative easing is on the way – indeed I thought a year ago as we were in the middle of QE2, that QE3 would come with a lag time of about 6-9 months after QE2 ended (April 2011). Instead we received ‘Operation Twist’ just about the time I had anticipated the next round of QE. But never fear says CNBC’s Steve Liesman – the Federal Reserve should be seriously considering QE very shortly. Perhaps the reason this market is like teflon right now as “those in the know” front run the news.
If you are curious the Fed now holds 16% of all outstanding Treasuries – that is quite incredible. In fact if we continue “QEing” (4….5….n) the U.S. is going to have to start running some bigger deficits because soon the Fed is going to run short of supply to buy. However the rumors that past 4-5 months have been that the next round of QE would focus on the mortgage backed securities market (similar to QE1) rather than focusing on Treasuries. As a bonus, just about every hawkish member of the Fed (sans one) was shown the door at year end, and in rotated a lot more dovish lot as voting members for 2012.
- Federal Reserve officials are seriously considering giving the US economy—and especially the housing market—an added jolt with more quantitative easing. Fed officials are likely to discuss such a move at their Jan. 24-25 meeting, when the central bank will issue its first quarterly forecast on interest rates under the new communication policy.
- Two of the new voting members this year on the Federal Open Market Committee , which sets interest-rate policy, have recently suggested they would support more assets purchases.
- San Francisco Fed President John Williams said that sustained high levels of unemployment, as forecast by many Fed members, “does make an argument that we should have more stimulus.” Another new voter, Cleveland Fed President Sandra Pianalto, said in a recent speech that economic models indicate the Fed “should be even more accommodative than it is today.”
- They join other members, including New York Fed President Bill Dudley and several Fed governors, who have openly suggested they would support more QE .
- Three hawkish members are losing their FOMC vote—Richard Fisher of Dallas, Narayana Kocherlakota of Minneapolis and Charles Plosser of Philadelphia—along with only one dovish member, Charles Evans of Chicago. They will be replaced by two more dovish members—Williams and Pianalto—and Dennis Lockhart of Atlanta, who is moderate but is seen as unlikely to dissent.
- But a more dovish makeup is just one reason that more QE could become a reality this year. Fed officials harbor doubts about the strength of the economic recovery and note there is considerable slack. And they expect inflation to remain moderate this year.
- Much will depend on the economic data during the first quarter. One concern inside the Fed is that much of the recent economic strength results from one-time factors, such as rebuilding inventories. Taking out inventories, underlying GDP still looks weak to some Fed officials. Meanwhile, income growth has also been lagging, suggesting any spending gains from the holiday season likely came from savings. Fed officials generally see this as unsustainable.
- The new program will likely concentrate on mortgage-backed securities in an explicit attempt by the Fed to provide more help to the housing market.
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Any securities mentioned on this page are not held by the author in his personal portfolio. Securities mentioned may or may not be held by the author in the mutual fund he manages, the Paladin Long Short Fund (PALFX). For a list of the aforementioned fund’s holdings at the end of the prior quarter, visit the Paladin Funds website at http://www.paladinfunds.com/holdings/blog
