SCOREBOARD: Fed mettle

US equities jumped overnight following the Fed's hasty decision to press forward with QE3.

Well there you have it – as it turned out the Fed didn’t wait till the end of year fiscal cliff theatrics. QE3 is out, although I wouldn’t say it’s in full swing yet.

That’s because they decided to buy MBS rather than additional treasuries, to the tune of $40 billion per month. Open ended. I had though it strange that Treasuries would sell off in the lead up to this meeting, but clearly the word was already out. Throw in Operation Twist and the fact the Fed reinvests principal repayments and you’re looking at purchases of roughly $85 billion per month.

I should add that they see no change in rates till mid-2015 (previously 2014).

Sheer lunacy – especially as the FOMC acknowledges in line two of the statement that "economic activity has continued to expand at a moderate pace in recent months”. In fact the FOMC expects growth to range at an above trend 2.5 to 3 per cent next year and 3 to 3.8 per cent in 2014.

No depression, no double dip, the economy is continuing to recover - but golly gee we’re going to print anyway! Note, however, that a majority of US economists surveyed by the Wall Street Journal don’t expect QE3 to have much of an impact on the real economy.

You can see how futile it would be for the RBA to cut rates in response to the high Australian dollar though. If business people, unions and the Commonwealth government are sincerely worried about the strong Australian dollar then they need to take it up with the US government.

Ask them why they insist on damaging our country with acts of economic vandalism – or economic terrorism as I’ve heard some say. But it’s true, if the RBA cut rates, nothing would be achieved – has been achieved – and it could end up destabilising the economy. The only option is to print money ourselves . This is costless, despite what some might say – and with the Fed disregarding all the rules of global finance and economics this is a discussion that Australia should seriously have.

While we’re on the topic, the Australian dollar shot a full one cent higher to 1.0545. I can’t help but note the contradictory commentary from Australian economists who, on the one hand cheer the Fed, but then lament the inexorable rise of the local currency – almost as if they didn’t have a brain.

Anyway, you can probably guess the rest of the price action and US equities loved it as did commodities. Just after the decision, US stocks shot higher along with the Australian dollar and euro (big figure to 1.2988) and we saw the S&P 500 close 1.6 per cent higher to 1459, the Dow finished 1.5 per cent higher (13540), while the Nasdaq was up 1.4 per cent (3157). Our own SPi was 0.8 per cent higher (4381).

As for those commodities precious metals were the key beneficiary and gold spiked another $34 to $1767 and silver was up 4 per cent. Copper lagged that with a comparatively modest 1 per cent gain, while crude was up 1 per cent to $98.

Do you know that Bernanke seriously doesn’t think that US monetary policy has a significant impact on commodity prices? True story – this is the chairman of the FOMC. For a long time he denied any impact at all. Other than that, softs all pushed higher and the CRB index was up 0.6 per cent.

On the rates side we saw some interesting price action. Yields spiked after the Fed announcement, those who hadn’t been ‘worded up’ getting in on the short action, and the 10-year yield was 10 bps higher at that point to 1.83 per cent.

An aggressive bid then came on, shorts were belted and all those gains were given back - the 10-year ending 2 bps lower at 1.72 per cent.

Certainly I think the Fed will start buying more treasuries, no question and maybe that’s what they’re saving for the fiscal cliff theatrics but still, the price action is very strange. The 5-year followed suit and ended a couple of bps lower at 0.64 per cent. The 2-year is at 0.23 per cent and Australian futures, trading on a 11 to 12 ticks range, ended 2 to 3 ticks higher at 97.41 on the 3s and 96.895 on the 10s.

Bits and pieces otherwise – the Fed’s forecasts for inflation and unemployment show they expect inflation to hover around 1.7 to 2 per cent over the next 2-years and the unemployment rate to be between 7.6 per cent to 7.9 per cent next year and 6.7 per cent to 7.3 per cent in 2014.

There was some data out to. Producer prices spiked in August, rising 1.7 per cent month on month (biggest gain in 3 years) to be 2 per cent higher annually up from 0.5 per cent year on year the month prior. Jobless claims rose almost 20,000 in the week to September 8.

Over in Europe there wasn’t much to say, stocks ended weaker with the Dax off 0.5 per cent and the CaC down 1.2 per cent although that was before the Fed. The news wasn’t bad out of Europe though, especially as the Italians managed to auction off €6.5bn in debt at sharply lower yields – 3-years for instance went out at 2.75 per cent compared to 4.65 per cent in July, which is the lowest yields in 2 years.

There is very little out today although tonight the data flow is heavy. It’s worth watching European inflation for a start. Inflation is well above target in many advanced jurisdictions already, despite the claims of Australian economists who tell who there is no inflation – and recent central bank actions ensure it will continue to rise.

Eurozone employment is also out. In the US we see retail sales, consumer prices, industrial production, business inventories and consumer confidence.

That’s about the lot, have a great day and weekend…

Adam Carr is a leading market economist. See Business Spectator's glossary for definitions of technical terms used in SCOREBOARD articles.

@AdamCarrEcon on Twitter.

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