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Thursday, July 25, 2013

The FED will taper, but when

Everybody knows that at some point the FED will cut back on QE.  The question is when and what will the reason be.  Will the economy be getting better?  Will the costs outweigh the benefit?  Here is a chart of how interest rates have behaved during QE programs.


Rates went up the entire time during QE1.  There was a precipitous fall after it ended.  Rates again went up considerably during QE2.  I think the fall off late in QE was related to the global weakness that showed up in Q2 2011 after the Japan earthquake.  There was another precipitous fall after QE2 ended.  Just like the previous programs QE3 is seeing rates rise.  Many people think that the latest rate spike was because Bernanke mentioned tapering.  I think it could be related to that but in a slightly different way.  While talking about tapering he made it pretty clear that QE would likely continue in some form until at least mid 2014.  Since rates tend to rise during QE was that a green light for traders to sell bonds for another year?  Even if the amount of purchases are tapered there still would be QE.  Can we be sure rates won't continue rising until QE is totally stopped?

The sudden rise in rates is starting to cause problems.  Home builder stocks and REITs are getting hit pretty hard.  Housing is constantly touted as a bright spot in the economy.  What happens if that slows down because of the increase in rates?  Here is what the D.R. Horton CEO said "There’s “no question” rising rates affected sales".  It appears it is possible that QE is doing more harm then good.  If the economic data gets weaker will Bernanke follow through on his pledge to increase purchases?  If he does will that drive rates even higher?

There will be no actual taper at the July meeting.  However, there could be lots of discussion and some signal of what is to happen down the road.  If rates move higher between now and Sept. I think they will have to do something.  According to Bernanke the object of QE is to help keep long rates down.  If that is not working then why do it.


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The information in this blog is provided for educational purposes only and is not to be construed as investment advice.