Preparing for the end of QE3
AS the US Federal Reserve concluded its monthly meeting yesterday, one thing should have become even clearer to financial markets: quantitative easing (QE), the unprecedented experiment of a central bank buying long-term bonds to keep the long-term cost of borrowing low to boost the economy, is coming to an end. If all goes as planned, the asset-purchase programme will end by October. Even so, the Fed has said that interest rates will be kept low for some time after QE3 ends.
In recent months, investors have taken the Fed completely at its word. Money managers such as Pacific Investment Management Co (Pimco) argue that the world is in a "new neutral" mode, where interest rates are low along with global growth. Asset prices around the world are at record highs, while bond yields are at record lows. In the short term, it looks like one can do no wrong by investing in most financial assets, including stocks, bonds and property.
But it is worth remembering that markets do not listen to the Fed all the time, nor is the Fed spot-on with its views. For example, in June 2008, then Fed chairman Ben Bernanke notably said that "the risk that the economy has entered a substantial downturn appears to have diminished over the past month or so". The S&P 500 by then had already fallen 200 points from its peak of around 1,550 a year before, and would crash in the months ahead. The US economy would slide into recession.
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