The good news is the Federal Reserve stands ready to help if
U.S. economy acts worse than expected. The bad news is the U.S.
economy needs help.
Thus far, the Fed's monetary trickery has helped to inflate U.S.
stocks (NYSEArca: VTI) and
(NYSEArca: TLT) but not much else. Ben Bernanke, the Fed's
Chairman, actually went on record to say his private organization's
bond buying program could boost U.S. employment by about 700,000
over the next two years. Is he serious?! If creating jobs by
purchasing bonds is such a great panacea, why haven't the 7.2
million pre-recession jobs suddenly returned?
If we were to choose a theme song for the Federal Reserve, the
1977 hit song 'Three Little Birds' by Bob Marley would be it. The
lyrics are immensely reassuring not to mention repetitive. The
song's main chorus says, 'Don't worry bout a thing cause every
little thing gonna be alright.' Unfortunately, 'everything is not
U.S. Government's AAA-Rating
Bernanke's latest 'work' has been to warn Congress to raise
the nation's debt limit and if not, then to expect another
financial crisis. Although it has not yet officially defaulted, the
U.S. government is in a fiscally dire situation. Even if lawmakers
temporarily raise the debt limit, it still doesn't eliminate the
debt. Furthermore, any unexpected uptick in interest rates would
increase the government's borrowing cost and make debt repayments
Despite the reality of the situation, major credit rating
agencies maintain their AAA-rating of U.S. government debt. Why
have they done this? I think it's mainly because the nightmare of
mis-rated AAA-rated mortgage debt that was ultimately proved
worthless is a distant memory. Likewise the 'warnings' from these
agencies about a potential credit U.S. downgrade are comparable to
the boy that cried wolf. After so many false alarms, people wised
up and stopped listening.
warned that, 'Debt is a four-letter word' but apparently, Fitch
Ratings, Moody's (
) and Standard & Poor's (
) never got the memo. Normally, corporations and individuals faced
with a debt crisis like the U.S. government's have their credit
lines and credit rating immediately yanked. Are credit agencies
applying a double standard when it comes to government rated
debt? And if so, why isn't the Securities and Exchange
Commission doing anything about it?
For the rest of us, it should raise red flags everywhere and
anyone making investment decisions based upon the false-comfort of
pristine credit ratings better re-think their strategy. Or as a
bond analyst once told me: 'Credit ratings are assigned after
analysts carefully analyze old financial statements.'
Since late last year, the Federal Reserve has been the largest
buyer of U.S. Treasury debt (Nasdaq: FGOVX). But its QE2 program
which gobbled up $600 billion in U.S. Treasuries ends on June 30th.
This has caused some observers, like PIMCO's Bill Gross (Nasdaq:
PTTRX), to speculate that Treasury prices (NYSEArca: IEF) will fall
sharply without the Fed's continued supportive buying. Is the
appetite for U.S. Treasuries by foreign buyers and other market
players enough to overcome the Fed's exit? On paper, the logical
answer is 'no.' However, if a pending collapse in Treasury prices
is the consensus view, as it seems to be, it probably won't
For sure, the Fed's the artificial involvement in the U.S.
Treasury market remains intact. Regardless of whether they stop
buying, the majority of their $3 trillion balance sheet is stuffed
with U.S. paper. And furthermore, they could very well continue
future purchases, as they've already alluded to.
Confluence of Factors
We know the Fed's 'work' at propping up the Treasury market and
keeping interest rates low isn't done. Regardless, forces larger
than the Federal Reserve are taking shape.
Although thepublic's attention is fixed on Congress and its
August 2 deadline, a confluence of other factors will drive the
future price of stocks, bonds and interest rates. What are the odds
of a default? ETFguide's
on U.S. Treasuries outlined the likelihood of a default by the U.S.
government along with specific
Beyond the Fed's tinkering, investors should expect the
unexpected. Why? Because this time