Sun, Aug 21, 2011 - Page 9 News List

Fed may have bullets left, but are they blanks?

While the Federal Reserve still has a few tools left at its disposal to try and kick-start the US economy, some investors fear that the growing politicization of Fed policy could impair its independence

By Steven Johnson  /  Reuters, NEW YORK


That has put the Fed in the line of fire of some politicians and voters — so much so that some investors fear the growing politicization of Fed policy could curb its independence.

Texas Governor Rick Perry, a Republican presidential candidate, even said he would consider it “treasonous” if Bernanke “prints more money between now and the election” next year.

William Larkin, fixed income portfolio manager at Cabot Money Management, dismissed Perry’s remarks as “crazy talk,” but did say the Fed faced increased political hurdles.

“The Fed is going to face a lot of push back,” he said. “Keeping rates low has caused talk of financial repression — stealing from savers and giving to debtors.”

A weaker US dollar, partly the result of the Fed’s easing, also complicates things. While it in theory helps exports, it also makes imported goods more costly, putting more pressure on consumers. Against major currencies, the US dollar is 11 percent weaker since last year’s Jackson Hole meeting.

“The Fed is being viewed as a political rather than financial actor, so their policy responses may have to be political as well as economic,” said Boris Schlossberg, head of research at GFT Forex. “As they lose their credibility among a certain segment of the population, that whittles away the kind of independence they used to have.”

Support for more easing isn’t universal within the central bank, either. President of the Dallas Fed Richard Fisher, one of three policymakers who voted against keeping interest rates low until 2013, blamed “fiscal misfeasance in Washington” for the economy’s woes.


None of this makes investing any more straightforward, money managers say. While stocks still look more enticing than low-yielding Treasuries, many portfolio managers have grown more defensive given the worsening economic outlook.

Dickson said he recommends clients increase cash and metals allocations just to be safe. However, he still favors stocks over bonds, particularly multinational stocks that offer dividend yields above the 10-year Treasury.

He said a D.A. Davidson & Co portfolio of such stocks has held up better than the S&P, shedding about half as much as the broader market between the middle of last month and Aug. 8.

Another option for equities investors is high-yield corporate bonds that offer comparable returns, but “half the volatility” of stocks, Shah said, adding that US corporations are sitting on piles of cash.

“But for people who want to preserve capital, there aren’t a lot of choices,” he said. “You’re going to earn zero here.”

There may be reason to hope that the Fed won’t need to act again. The central bank’s latest senior loan officer survey showed some easing in lending conditions, particularly for commercial and industrial loans to businesses.

If the trend persists, that could encourage more hiring.

Should things take a turn for the worse, though, investors had better bet on another round of quantitative easing, said Michael Cheah, senior portfolio manager at SunAmerica Asset Management in Jersey City, with US$1.5 billion under management.

With inflation low and wage growth stagnant, he said the Fed has the leeway to pour more money into the system. That would boost stocks at the expense of bonds and stoke demand for higher-yielding currencies over the dollar.

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