Municipal Market Commentary – November 20, 2014
Quantitative Easing and What it Means for You
With the Fed’s recent announcement of its decision to end the bond buying stimulus program known as Quantative Easing (QE), many individual investors are concerned about the impact on the economy at large and their individual portfolios. The good news for investors is that, for the most part, the bond market has been preparing for this day for more than 1 year.
As a result of QE, the Fed balance sheet has mushroomed to over four trillion dollars. This liquidity that has been added to the economy, which was the primary intention of QE efforts, will remain in place with little expectation that it will be reduced in the foreseeable future. Of course the Fed retains the option to start a new round of easing if the inflation outlook or economic projections deteriorate. That would be QE4 for those keeping score. But many market observers see this as an unlikely action by the Fed, based on some FOMC members’ stated opposition to more easing.
Many knowledgeable Fed watchers believe that while QE concentrated on buying long term bonds, the Fed’s next step would likely be directed at short term rates. Even that action is not considered imminent. Typically the Fed reacts to an economy growing faster than what they believe is a comfortable rate. A faster than ideal rate of economic growth can cause price increases to accelerate and/or bring about an undesirable level of inflation. Because economic growth and inflation are both increasing at below the Fed’s target levels, it is logical to expect a slow measured response from the Fed when short term rate increases begin. Our updated projection on the Fed’s timeline for future activity is here.
With this as a background, it appears that the market is likely to look ahead and try to anticipate when the Fed may begin increasing short-term interest rates. What all this expectation actually means to individual investors is somewhat limited. While changes in Fed policy may often seem dramatic, the market has for the most part priced in many of these anticipated actions already. Short-term high-quality fixed income investments may see little in the way of price declines if and when short term rates do rise.
From an academic view this is all very interesting but, as always, individual investors should reflect on the goals and investment objectives of their individual portfolios rather than on market commentator projections, and frequently unproductive attempts to time market purchases.
If your goal is to maximize the income from your bond portfolio, the best time to buy bonds is usually (though not always) when you have investment cash available. Rather than guessing what the Fed watchers are seeing, keep your eyes on your investment portfolio and look for high quality fixed income buying opportunities that may meet your investment objectives and goals. And of course, don’t hesitate to call our Financial Advisors to help you find bonds that are appropriate for your investing goals.
Investing in bonds involves risk including the possible loss of principal. Income may be subject to state, local or federal alternative minimum tax. When interest rates rise, prices will fall, when interest rates fall prices will rise.
Our Trader’s Analysis charts the growth of the Fed’s balance sheet during the periods of Quantitative Easing securities purchases.
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