Today’s announcement by Fed Chair Janet Yellen is supposed to give the markets an update of the timeline for when and at what pace the Federal Reserve’s Balance sheet will be cut.
When you look at the sheet, it is a pretty frightful thing and one that makes for some pretty easy headlines.
Just look at ’08 and the ascent their assets took then.
Why did they end up with such a huge portfolio?
To essentially save the markets from collapsing to zero.
Literally. Look at the chart below and you’ll see what I mean.
[chart source: http://ftmdaily.com/investing/stocks/chart-the-impact-of-feds-qe-on-the-sp-500/]
Each time the fed eased off their buying, the markets pulled back and quantitative easing kicked into another gear.
So after buying a ton of bonds (to flood the system with more cash, as when they were buying the bonds they were giving capital to banks..so they could lend more).
Lots of traders were worried when the Yellen and the Fed made a formal announcement on the end-date of QE . I’ll be honest; I got a bit panicky as well.
After being propped up so much, would they just tumble?
Nearly three years after the end of QE3, we’re in a market that continues to see ATHs. So maybe that fear wasn’t warranted.
Now, the talk has turned to how epically devastating an aggressive unwinding of the balance sheet could be on capital markets.
Here’s the thing though.
There are several ways the Fed can do about unwinding its’ balance sheet. In fact, they don’t even have to sell any of the assets Since the holdings are mostly bonds of some flavor, they can just stop re-investing their yields and let the bonds sit to maturation.
The Fed doesn’t want to crash the market. Yellen has been advocating for a slow unwind and with the dollar weakening…a gradual reduction in the balance sheet could help prop that up which would make Trump happy. Trump has also pulled a 180 on Yellen. Initially, he was hell-bent on getting rid of her but most recently his statements have given more room for her to stick onboard for another term.
My key point today is not be suckered into fear trades. The indices will get fidgety/negative as the announcement arrives. Gold will increase; etc..etc…
Don’t forget the market has been pricing in this reduction for a year now, as well as more “DOTS” than we’ve gotten so far.
Keep a hedge on, but just think logically. This event today is hype, the market won’t die this afternoon.
Stay thirsty my friends,
Dros
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