Another Grand Slam for D.C.

Steve McDonald By Steve McDonald
Bond Strategist, The Oxford Club

Slap In The Face Award

Transcript:

Here’s a slap that most of you won’t find hard to believe. Maybe we’re getting too calloused.

Everyone remembers quantitative easing (QE). It was supposed to stimulate the economy and create some inflation. The Federal Reserve spent $2 trillion on it, and no one – and I mean no one – to this day can say if it worked.

That was $2 trillion worth of uncertainty.

At a recent press conference, Chairwoman Janet Yellen avoided a question about the effects of QE and instead said that the Fed is certain of the effects of rate changes.

Hmpf…

But now the issue will be unwinding the QEs and dealing with the effect the unwinding will have on the economy.

The unwinding is starting small by allowing $10 billion worth of bonds on the Fed’s balance sheet to mature a month. By next year, that will grow to $50 billion per month.

That means that by next year, QE money will be coming out of the system twice as fast as the Fed put it in, and the experts are concerned. No one knows for certain what will happen.


Now, I want you to think about your job and how your boss would react to a recommendation to spend any money – certainly not $2 trillion – on a plan that even your own experts weren’t certain would work.

Is it just me or is this a little too crazy, even for D.C.?!

There are, however, two things that are certain…

First, when the unwinding hits high gear and Treasury yields move up – and they should – stocks will look less attractive. Higher government-guaranteed yields lower the attractiveness of equities.

And one of the things that has been driving the huge move to stocks since 2009 is that bond yields have been in the toilet for years. Low Treasury yields make the return on stocks and higher risk look better. If that changes, we could see pressure on stock prices.

Second, since the Fed is not buying bonds anymore and putting enormous buying pressure on the bond market, prices should drop and yields should move up.

So we can’t be sure if QE worked, and we don’t know how the unwinding will affect the economy, but it could push rates up and possibly push stocks down – and all this uncertainty cost only $2 trillion.

Another grand slam for D.C.!

Good investing,

Steve

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