First the good news: The Fed’s quantitative easing program (QE3, also being called “QE unlimited” and “QE infinity”) may have more impact than I initially recognized. My first thought was simply that, by buying bonds, the Fed is:
- Injecting more money into the system which will eventually be used to buy stocks, thereby boosting prices.
- Removing bonds from the system (the Fed is injecting liquidity by buying treasury bonds and mortgage-backed securities). In doing so, the pool of securities available to investors is now smaller. Not only is there more money, it is chasing a smaller pool of assets, thereby adding to the upward pressure on stocks.
An article in the Financial Times highlights that an effect of QE is devaluing currency. The US is a major trading partner with most nations globally. The Fed’s actions will weaken the dollar.
Essentially all countries are looking to support their economies by boosting exports (if one can sell products abroad, that means there are manufacturing jobs to be kept or created at home). Of course, it is easier to sell goods when they are cheap. If a country can devalue its currency, domestic goods look cheap to the outside world.
Because the US is weakening the dollar, imports to the US from other nations will be more expensive (and therefore less attractive) to US buyers. These foreign exporting nations may be forced to respond with their own measures of QE to keep their currencies cheap versus the dollar. In effect, Bernanke (and Draghi at the ECB) are forcing nations around the world to engage in QE programs of their own.
As an aside, when dollars chase assets, they chase commodities as well as stocks. It will be interesting to see the degree to which food and oil prices increase along with stock prices.
The counterbalance to QE has been the economic data of the past few days. It has surprised me on the weak side. For example:
- Weekly jobless claims came in at 382k (Thurs, Sept 13)
- Advance retail sales (less gas/cars) was up only 0.1% (Friday, Sept 14)
- Capacity Utilization was 78.2% versus expectations of 79.2% (Friday, Sept 14)
- The NY Fed Manufacturing survey was -10.4 (versus expectations of -2.0), with declines in both new orders and employee hiring, though expectations for the future six months from were optimistic and even slightly improved from the prior month (Monday, Sept 17)
Of all of these, I find capacity utilization potentially the most concerning. One of the side effects of QE is investing in hard assets (i.e. factories). If there is already excess capacity, building more is ultimately counterproductive. But that’s a problem for another day.
While the economic data of the past few days has been disappointing, it is important to bear in mind that this is merely a sample of a few days. I don’t want to overemphasize this data, other than to make the observation that it bears careful watching.
In weighing QE versus bad economic data, I think QE is more impactful for now, especially in light of expecting that other nations will be forced to follow suit. As it pertains to my views on investing, even slow growth may be worth betting on. In a world of no growth, any growth becomes increasingly attractive, and I may need to revise my price targets higher for the stocks that I currently own.