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Operation Twist Again

S&P 500 Since June 1st

In a blog post on June 1st that you can find here: Click Here for June 1st Blog Post I made mention that we were putting the cash to work we had raised when the market was higher because it was my belief that the weakness in the US economy would cause the Federal Reserve to do some form of monetary stimulus, most likely Quantitative Easing (QE3), and that would raise stock prices.

In the graph above, you can see that the market has strengthened considerably since June 1st (the purple vertical line). Today, the Fed came out with an announcement that it did in fact decide to some monetary easing, but of the mildest extent possible. It is going to extend Operation Twist (a mild form of quantitative easing) which will keep the current level of monetary easing going for an extended period of time.

The stock market is down about 1/2% right now as the Fed Chairman is speaking – investors seem to be mildly disappointed that the Fed isn’t doing a more robust stimulus like a full blown quantitative easing program. But it also isn’t selling off in a huge way, which it certainly could have done if expectations were too high.

As I look at it, Operation Twist extends the duration of the Fed’s holdings of Treasury Notes by reinvesting the short-term notes that are maturing into longer term bonds. This should have the impact of lowering longer-term bond yields, and any debt that is indexed to treasury yields (like mortgage rates and some bank business loans) should have low interest rates for the foreseeable future.

The Fed also stated that they were lowering their forecast for GDP growth by 1/2% and that they expect unemployment to increase from current levels. Given these, I think today’s action is just to buy them time – they want to see if their forecast really comes about, and if it does, they will engage in a full blown quantitative easing program.

Click Here for Today\'s Video on YouTube