Jul 3, 2012

Will the Fed Sink the Stock Market?

OK, this headline was probably guilty of deliberate catchiness. Of course the Fed will not sink the market. But Wall Street's easy-money addiction might. Relying on "Big Ben" to save the day  has become an instinctive thought process on Wall Street ever since the launching of QE2. When bad data comes out, it is taken as a positive development, because it just might be the last straw that pushes the Fed to action.

Well, not so fast. While everyone would agree that the trillions of dollars printed by the Fed through Quantitative Easing has gone a long way to push up the prices of a wide range of financial assets, its beneficial impact on Main Street is yet to be seen. The stock market is anywhere between 20 to 50% higher compared to where it would have been absent QE. While that has undoubtedly had some spillover "income effect" on the rest of the economy, pushing up asset values was never meant to be the ultimate goal of the Fed's easy money policy.

We are definitely at a stage where more easing brings less tangible results to the real economy and QE3 is less likely to materialize as a result. That has not stopped Wall Street from continuously dreaming about it. With the official US PMI coming in disastrously worse than expected yesterday, the market should have tanked, yet it barely moved due to expectation of further QE. Sooner or later this will end in tears.