There has been a tremendous amount of fear-based information flying around lately regarding the Federal Reserve Bank program referred to as QE3, the third phase of quantitative easing. It has been theorized it will cause our economy to slow and the stock markets to decline.
There is no doubt investing requires an ability to embrace uncertainty as all new information – and there is a ton of it – is a surprise, whether good, bad or indifferent. This is why investment management can benefit from incorporating a strong risk management component.
Coming to a conclusion as to how we should measure the impact of interest rate fear is difficult because, as always, many components are at play and much information is flowing.
First, one must take a solid look at what exactly the Fed is signaling at the current time.
There have been hints suggesting in September the Fed is going to start to slow its securities purchases, which have been running about $85 billion a month, split between Treasuries and mortgage-backed bonds.
The intent of this program was to hold down interest rates for a longer term, yet interest rates are nonetheless rising. The 10-year note has risen from 1.65 percent to approximately 2.8 percent over the past 12 months. The 30-year also has risen from 2.76 percent to about 3.8 percent over the same time period. Mortgage interest rates also are starting to move up. Markets can only be manipulated for so long before they will start to move to their fundamental value, which, for the 10-year note, is estimated by many economists to be around 3.4 percent.
Rising interest rates generally indicate a growing economy, which we do have, albeit considerably below what it is capable of. The employment problem is slowly healing, but for the most part, limited to the educated, which relate to generally higher-income jobs. Even though the economy continues to send mixed signals, many of these signals are not that important or reliable. The key signals continue to indicate growth will continue at least at the same pace that it has and eventually accelerate.
In our opinion, the Fed’s effort to slow the purchases of securities has no real impact on its overall interest rate policy as it has pledged to keep that policy accommodative by holding the Federal Reserve Funds Rate at or near zero until the unemployment rate reaches 6.5 percent. We could be well into 2015 before this is achieved. Overall, rates should slowly continue to increase, but the effects of this increase should be mitigated by other, more positive, economic news.
Global growth is improving as both Asian and European economies are starting to grow again. They are not out of the woods yet, especially Europe, which still has problems with a number of its member countries. The U.S. dollar, while down from its July 2013 high, should continue to firm, which makes commodities and imports less expensive while global growth aids our exports.
The energy (fracking), transportation (sea, truck and rail along with current pipeline construction) and innovative technology firms are still strong growth catalysts for our country.
Large corporations’ profits are still growing as companies either grow sales and/or manage margins. Large corporations benefit most from the Fed Funds rate being low as they finance most of their longer-term needs through stock and bond markets and not through banks.
Smaller and mid-size companies that depend on banks are seeing relaxed credit standards as the anti-risk environment of the regulators after the financial crisis is reduced. However, these companies remain cautious as commercial and industrial loan growth remains historically low.
Most forecasts do not show a large increase in business investment through the next 15 to 16 months.
Small businesses remain especially cautious as overall credit standards still make credit availability challenging and an overall regulatory and business climate that favors large business over small continues to heighten their overall future concerns.
Lastly, investors’ risk appetite overall has been increasing as of late as the generally more risky Nasdaq and Russell 2000 have been showing some additional strength.
The bottom line is there is no current information that confirms the result of a QE3 purchases slowdown will have an adverse effect on the stock markets or the expected growth of the U.S. and global economy.
Please remember, surprises can come and past performance does not guarantee future results. For that reason, I continue to heartily recommend a solid financial, retirement and estate plan that guides an actively managed investment and risk management plan designed to your specific needs and risk tolerance level. It will reduce dependence on the staggering amount of conflicting news and information readily available.
Send financial questions you wish to have answered in this column to Dorion-Gray Retirement Planning Inc., 2602 Route 176, Crystal Lake, IL, 60014. You also may fax them to 815-455-4989 or email firstname.lastname@example.org.
• Paula Dorion-Gray, CFP, is a registered representative of Securities America Inc., member FINRA/SIPC.