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Wealth Managers Mostly Sanguine As Fed Starts To Wind Down Money Printing

Tom Burroughes

19 December 2013

The word “tapering” has become part of the investment lexicon in recent months, referring to if and when the US Federal Reserve reduces and eventually halts its program of buying bonds with freshly-minted money. Now, at the end of 2013, the Fed has made its move.  

Ben Benanke, Fed chairman, has signaled that the world’s most powerful central bank will run down bond-buying, showing that he and his colleagues think the US economy is now robust enough to live without the life-support machine of new money.

The prospect of an end to quantitative easing has been one of the reasons why emerging market indices, which had previously enjoyed the benefits of this monetary stimulus, have languished relative to developed equity markets this year. It has also seen the price of gold fall by the biggest amount since 1981, since QE had previously encouraged buying of the yellow metal due to fears that QE will stoke inflation and hit the dollar.

Speaking at his final press conference - Bernanke is stepping down from the role that saw him handle the aftermath of the 2008 financial crash - Bernanke said: “Today's policy actions reflect the assessment that the economy is continuing to make progress, but that it also has much farther to travel before conditions can be judged normal.”

The Federal Reserve announced a reduction in the pace of its asset purchases in December, saying that the pace of purchases would decline to $75 billion per month beginning in January next year from the current $85 billion level. The Fed is cutting its Treasury and agency mortgage-backed securities purchases by $5 billion in each case, leaving new purchase rates at $40 billion and $35 billion per month, respectively.

Response

Wealth managers gave a mostly cautiously positive reaction to the news.

“We’re pleased with the Fed’s decision, having long argued that the last round of QE was too large and disrupted the proper functioning of financial markets without meaningfully helping the labor market. This is a step in the right direction,” Rick Rieder, chief investment officer of fundamental fixed income at BlackRock, said.

“We think there is ample evidence that the labor market is strengthening, if slowly, which is why the Fed was able to make this decision. At the same time, wage pressures aren’t there yet, helping to keep a lid on inflation even as some of the dis-inflationary factors we’ve seen in energy and technology are actually helping to lift productivity and growth. This is all good for the economy. BlackRock has been calling for US growth of around 2.5 per cent in 2014, but we could see an upside surprise on that number,” he said

“This won’t be a big shock for bonds, because there’s still plenty of easy money in the global financial system. That’s not to say rates won’t move higher over time. We are looking for the 10-year US Treasury to inch up to 3.25 per cent or so by the middle of next year. So-called spread sectors - high yield, commercial mortgages and other asset-backed bonds as well as longer-dated municipal bonds - are all still better bets than Treasuries,” he said.

At UBS, the response was cautious.

The knee-jerk reaction in markets was, predictably, negative. However, the statement that "it likely will be appropriate to maintain the current target range for the federal funds rate well past the time that the unemployment rate declines below 6-1/2 per cent, means that interest rates are likely to remain loose for an extended period of time," Kiran Ganesh and Mads Pedersen, at the chief investment office of UBS Wealth Management, said in a note.

“Just two Fed members expect the first interest rate hike in 2014, with 12 expecting the first hike in 2015, and 3 in 2016. This revised outlook for interest rates, along with dovish commentary from Fed Chair Ben Bernanke at the press conference, has led to a rally in most risky assets,” the Swiss bank continued.

“Within equities, regionally, we continue to believe the US market should enjoy the most solid macroeconomic support, and, as demonstrated by the interest rate guidance, the Federal Reserve remains highly accommodative despite the tapering announcement,” UBS said. It added that recent strong housing data evidence suggested this market should withstand a cut in the number of mortgage-backed security purchases.

It noted that the currency market impact of Bernanke’s remarks have been muted so far.

“The decision to begin the tapering process in January…was also accompanied more importantly by a decision to move expectations away from a 6.5 per cent unemployment rates being the catalyst to the Fed raising interest rates,” JP Morgan Asset Management Fusion funds manager Tony Lanning said.

“It seemed clear that zero interest rates will remain in place even when unemployment falls below that level. They also highlighted their preference for inflation to move closer to their 2 per cent target. We believe this should now allow the markets to begin to re focus on fundamentals which we feel continue to improve albeit slowly. The decision to begin to withdraw the medicine should give markets comfort that the patient is indeed recovering and that the economic recovery is real,” Lanning said.

At Saxo Private Bank, part of European-based investment and trading firm Saxo, its chief investment officer, Teis Knuthsen, said: “It is positive that the Federal Reserve has ended months of uncertainty regarding tapering. My view has been for a while that tapering was required, not least because of the drop in government bond issuance.

“If tapering is seen as hawkish, it is being countered by a quite dovish forward guidance, with an implicit acceptance of a drop in unemployment below the previous reference level of 6.5 per cent before rate hikes become needed.”