The Fed Has a Few Problems – Like How to “sell” QE3

First, it’s a victim of its own success.

Until around 2008, no one cared about the Fed. It was the nerdy kid that never got invited to the party… The market snoozed through its policy briefs.

But since the global financial crisis began, you could say the Fed’s “stock” has been on the rise. That’s because it boldly claimed it could “fix” the problems. If you ignore the economy, and only look at the equities markets, it seems the Fed HAS.

Just look at the lift quantitative easing has given to the S&P500 since 2009:

QE1 pushed the S&P500 up 26% between January 2009 and April 2010.

QE2 pushed the S&P500 up 24% between September 2010 and July 2011.

Operation Twist / LTRO have pushed the S&P500 up 17% since September 2011.

So, now the market believes the Fed has magic bullets that can fix anything. What’s more, equity investors are now addicted to the stimulus… speculating when the next booster shot will come and clamoring for more market-moving rocket fuel.

The market’s expectation for continued stimulus is pressuring the Fed to keep acting. And we actually expect the Fed to comply and implement QE3 this year. But now they have another problem…

The S&P500 just made a four-year high! The Fed can’t claim the equity markets need saving or fixing. Well, they’ve never outright framed their justification for easing this way, but it’s been the unspoken understanding of equity investors.

It was easy to “sell” QE1 after the S&P500 dropped 41% between October 2007 and January 2009.

It was easy to “sell” QE2 after the S&P500 dropped 12% in a five-month period.

It was easy to “sell” Operation Twist / LTRO after the S&P500 dropped 16% in two months.

But now, with the market hoping for QE3, the S&P500 has gained more than 10% since June. Justifying QE3 will be a lot more difficult than any previous easing the Fed has done.

While it’s hard to say exactly what the Fed will do in Jackson Hole, one thing is clear: it’s now THE guest of honor at the (stock market) party… and everyone’s hoping it shows up with a boat-load of booze.

If you haven’t done so already read the Survive & Prosper issue on “What to Expect Out of Jackson Hole, Wyoming Next Friday?”



Adam O’Dell

Using his perfect blend of technical and fundamental analysis, Adam uncovers investment opportunities that return the maximum profit with minimum risk.