Ben Bernanke has ridden to the rescue again.
The S&P 500 – the main US stock market index – is back in bull market territory, having risen just over 20% since October.
How did the Federal Reserve chairman pull it off? The good old-fashioned way. By promising to keep interest rates as low as possible for as long as he can.
When Alan Greenspan was at the helm of the Fed, it was called ‘the Greenspan put’. It’s what got us all into this mess in the first place. And it’s likely to end in tears all over again.
But in the meantime, what does it mean for your investments?
Central banking gets complicated
Remember the good old days, back before the credit crunch? Central bank watching was so simple then.
When Mervyn King or Ben Bernanke met up with their little teams of central planners, all you needed to worry about was one thing: what were they going to do with interest rates?
Now it all seems to be much more complicated. It’s not about what they do with interest rates today any more. It’s about what they think they might do with interest rates in two years’ time. And about whether or not they think they might print more money at some point. And about exactly what they think inflation might be in 2014.
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Take last night. The Fed announced that it’s likely to keep interest rates low until late 2014. (It had previously promised low rates to mid-2013, hence the market’s excitement at getting another year of cheap money). However, it also set a formal inflation target of 2% – the first time the Fed has actually admitted to having an explicit goal.
This begs a lot more questions than it answers. How can Bernanke know that inflation is going to be so well-behaved over the next 24 months? The answer of course, is that he doesn’t. And when you look deeper into the views of the various Federal Open Market Committee (FOMC – their equivalent of our Monetary Policy Committee) you soon see that individual opinion is pretty varied.
Some Fed members think US rates should rise as early as this year, says the FT. Others reckon it’ll be 2016 before they do.
But here’s the good news. You don’t have to worry about the details. The latest move might seem complicated. But it all boils down to one thing. Bernanke is telling investors: “I will keep money as cheap as I can for as long as I possibly can.”
How do we know? Everything in the way this presentation was spun pointed to “downside risks”. You don’t have to be a raging optimist to accept that some of the data on the US economy has been looking more positive recently.
There are plenty of caveats to all this – I’ll mention some in a moment – but the Fed was resolutely gloomy about growth prospects. And as the FT notes, “most of the FOMC expect inflation to be at or below the new target of 2% at the end of 2014,” with unemployment still above 7%. If that’s the case, then it in fact “implies that monetary policy is too tight” just now.
In other words, Bernanke is just looking for an excuse to press the button on the printing press again.
So what does this mean for you?
The main impact of the Fed’s speech was to whack the dollar. That made everything else go up. This was probably Bernanke’s main goal for now. If the US manufacturing recovery is to continue, then a weak dollar would be very helpful.
Yes, this is a ‘beggar-thy-neighbour’ policy and another shot in the currency wars. But who’s going to complain just now?
The Europeans aren’t going to whine about a stronger euro – they’re still terrified it might not exist this time next year. The Japanese still seem reluctant to act decisively to weaken the yen, despite the outcry from their manufacturers. And the Chinese are happy with a weaker dollar – it means their currency falls too.
Of course, this is all good for gold, which is why you should be hanging on to it. The yellow metal shot back above $1,700 an ounce on the Fed’s announcement.
However, I’m not convinced that a ‘weak dollar’ policy will have legs. The market’s view of the US economy has shifted. It’s no longer merely the place you run to when everything else is going pear-shaped. It’s becoming attractive in its own right again.
Whether that’s overly hopeful or not (the likes of Apple are reporting outstanding results, as my colleague Phil Oakley wrote yesterday, but overall, earnings so far this quarter have beaten hopes by the least in a decade), the fact is that the more investors believe America is the place to be this year, the more investment flows it will attract.
Despite the Fed’s best efforts, the dollar is no longer a one-way street. So as we’ve been saying for a while now, it’s worth having some exposure to the US in your portfolio. That doesn’t mean you have to pile into US stocks – in the next issue of MoneyWeek magazine (out tomorrow) our roundtable experts pick some of their favourite UK-listed US plays. If you’re not already a subscriber, subscribe to MoneyWeek magazine.
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