By
Andy
Singh
:
QE (quantitative easing) is essentially the printing of money
and the addition of liquidity into the markets so that stock (and
other asset) prices are given an
artificial boost
. Federal Reserve Chief Ben Bernanke believes that by pulling up
stocks, the masses will feel richer and spend more on consumer
goods, thus lifting up the economy. This is based on Karl Marx's
reflexivity theory (George Soros essentially paraphrased Marx) that
states by turning the small wheel (stocks), you can turn the big
wheel (economy), which in turn will come back and turn up the small
wheel (stocks). Bernanke subscribes to such a theory, and he wants
QE to lift up the small wheel (stocks), which he hopes will lift up
the big wheel (the economy).
But after two successive rounds of QE (QE1 in 2009 and QE2 in
2010), it has become crystal clear that quantitative easing doesn't
work nearly as well as theory says it should. In the short term, QE
can pull up stocks and the economy, but in the long term the
economy is going to go where it's going to go, regardless of how
much liquidity the Federal Reserve is
pumping
into the economy and stocks. Everyone has now recognized that the
economy is slowing down (including Congress), and everyone knows
that the Federal Reserve has only one bullet left: QE3. QE is like
a medicinal drug -- take it once, and you'll heal very quickly. But
every time the disease comes back, you'll need to take bigger and
bigger doses of the drug, and each time you take it, the drug
becomes less and less effective until eventually it's useless. QE3
is the last round of QE because everyone knows that QE4, 5, 6,
etc., will be pointless.
The Federal Reserve is holding a meeting from July 31 to Aug. 1.
Will QE3
be announced at that meeting
? Will the Fed shoot its final bullet? Out of the 11 Federal
Reserve officials, 10 have already voted "yes." However, the
decision ultimately lies with Bernanke, who has veto power. Right
now, the commodity and stock markets are stalling and waiting to
see what will happen at the August Fed meeting.
Here's what I think about the chances of QE3 being announced at
the August meeting:
Factors Influencing Bernanke's Decision
- Romney has stated that if elected president, he will not
renew Bernanke's term as Federal Reserve chairman in January
2014. Meanwhile, Obama is a great defender of Bernanke, who will
do anything in his power to ensure that Obama wins this year's
election. Historically speaking, the stock market has had a great
influence on electoral results -- the administrations in power at
the time usually win the re-election if stocks do OK during
election time, while administrations usually lose if stocks fall
during re-election time. This means that Bernanke needs to ensure
that stock prices don't fall from now until Nov. 4, 2012.
- Everyone, including Bernanke himself, knows that this is the
Fed's last bullet. If he initiates QE3, Bernanke has no more
weapons in his arsenal should the economy and stocks tank
hard.
- Everyone is looking to Bernanke now. Congress has already
said that the economy is slowing down and that the Fed is the
"only game in town." If Bernanke doesn't initiate QE3 now, it
will seem as if he's behind the curve, which is bad PR for
him.
Why Bernanke Will Initiate QE3 at the August
Meeting
- Bernanke must prop up stocks from now until the election. In
addition, everyone knows that the economy is already slowing
down, so Bernanke will look bad (from a PR standpoint) if he's
too slow in reacting.
- If he's going to initiate QE3, he can't wait until the Sept.
12-13 meeting. Markets usually take two to three months to react
to QE, which means that if he initiates QE3 in September, it
won't have any positive effect on stocks until the elections are
already over. This leaves Bernanke with one choice: announce QE3
on Aug. 1.
Why
Bernanke
Won't Initiate QE3 at All
- Everyone knows that this is Bernanke's last bullet, so once
he shoots it all the short sellers might sell on the news.
Instead of propping stocks up, QE3 might just cause stocks to
tank. Bernanke knows this too, which is why he's hesitant about
initiating QE3.
- Bernanke's afraid that QE might cause commodity prices to
rise, which has happened in the past. That is bad for the economy
because the cost of everything goes up. Oil prices are already
going up and will rise even more should QE3 be initiated. This
will send shock waves through an already frail economy.
Whether Bernanke does or doesn't initiate QE3 is uncertain, and
if he does, what the market's reaction will be is even more
uncertain. I hate investing in markets like this, when you
shouldn't really be doing anything because the decision (QE3) can
go either way. You never know -- Bernanke might wake up all happy
one day and initiate QE3 or, if he's in a down mood, not initiate
QE3 at all.
Disclosure:
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours.
See also
DWAS: New Technical Small Cap ETF Follows Relative
Strength
on seekingalpha.com