Credit Easing Goodbye - Quantitative Easing Ahoy!
The Federal Open Market Committee (FOMC) has decided to reinvest any proceeds from maturing securities acquired through its $1.25 trillion mortgage-backed security (MBS) purchase program. The proceeds won't be invested in short-term, but in long-term Treasuries.
Federal Reserve (Fed) Chairman Bernanke has long argued that the MBS program constituted credit easing, not quantitative easing. Credit easing, the argument goes, ought to support the functioning and liquidity in a market. In various speeches, Bernanke has called the chapter on credit easing closed, a sign that the Fed is engaged on an "exit strategy".
We had repeatedly cautioned that merely not buying additional securities is no exit at all, but rather a pause. To be consistent with its public communication, we argued quantitative easing would follow credit easing. Quantitative easing is the purchase of government debt with long maturities. In many ways, quantitative easing is not all that different from credit easing, because of the tight spreads (close relationship) these securities tend to trade in.
The cat is out of the bag now: credit easing it out, there is no exit, quantitative easing is the name of the game. For now, the size of the Fed's balance sheet is to remain constant, that is, the maturing securities won't be running off, but will be re-invested. It may be worth mentioning that, historically, central banks rarely ever succeed in substantially reducing the size of their balance sheets after periods of expansion. Even when a central bank wins a fight against inflation, we never return to old price levels; policy makers tend to be satisfied in preventing further abnormal increases at an elevated level.
This is in stark contrast with the European Central Bank (ECB) that drained €244 billion ($322) from the markets in the eurozone.
The dollar plunged from its intra-day highs as a result of the announcement. What keeps the dollar from falling further is the confidence that the Fed will do whatever it takes to ensure the negative effects of quantitative easing, inflation, will not be a problem. To that argument, we would like to point out a) this sounds a lot like a "frog in a boiling pot" theory as the Fed is further boxing itself into a corner; and b) note that Bernanke may see a weaker dollar as a positive rather than a negative side effect of his policies. In our assessment, Bernanke, unlike his predecessors, considers the U.S. dollar as one of the policy tools at his disposal.
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Author: Axel Merk
Axel Merk
Manager of the Merk Hard, Asian and Absolute Return Currency Funds, www.merkfunds.com
Axel Merk wrote the book on Sustainable Wealth; peek inside or order your copy today.
Axel Merk, President & CIO of Merk Investments, LLC, is an expert on hard money, macro trends and international investing. He is considered an authority on currencies.
The Merk Absolute Return Currency Fund seeks to generate positive absolute returns by investing in currencies. The Fund is a pure-play on currencies, aiming to profit regardless of the direction of the U.S. dollar or traditional asset classes.
The Merk Asian Currency Fund seeks to profit from a rise in Asian currencies versus the U.S. dollar. The Fund typically invests in a basket of Asian currencies that may include, but are not limited to, the currencies of China, Hong Kong, Japan, India, Indonesia, Malaysia, the Philippines, Singapore, South Korea, Taiwan and Thailand.
The Merk Hard Currency Fund seeks to profit from a rise in hard currencies versus the U.S. dollar. Hard currencies are currencies backed by sound monetary policy; sound monetary policy focuses on price stability.
The Funds may be appropriate for you if you are pursuing a long-term goal with a currency component to your portfolio; are willing to tolerate the risks associated with investments in foreign currencies; or are looking for a way to potentially mitigate downside risk in or profit from a secular bear market. For more information on the Funds and to download a prospectus, please visit www.merkfunds.com.
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The Funds primarily invest in foreign currencies and as such, changes in currency exchange rates will affect the value of what the Funds own and the price of the Funds' shares. Investing in foreign instruments bears a greater risk than investing in domestic instruments for reasons such as volatility of currency exchange rates and, in some cases, limited geographic focus, political and economic instability, and relatively illiquid markets. The Funds are subject to interest rate risk which is the risk that debt securities in the Funds' portfolio will decline in value because of increases in market interest rates. The Funds may also invest in derivative securities which can be volatile and involve various types and degrees of risk. As a non-diversified fund, the Merk Hard Currency Fund will be subject to more investment risk and potential for volatility than a diversified fund because its portfolio may, at times, focus on a limited number of issuers. For a more complete discussion of these and other Fund risks please refer to the Funds' prospectuses.
This report was prepared by Merk Investments LLC, and reflects the current opinion of the authors. It is based upon sources and data believed to be accurate and reliable. Opinions and forward-looking statements expressed are subject to change without notice. This information does not constitute investment advice. Foreside Fund Services, LLC, distributor.
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