Monday, April 27, 2009

Federal Reserve Impotence

In mid-March, the Federal Reserve announced its intention to purchase $300Billion worth of US Treasuries, triggering an almost immediate 50 basis point decline in the 10 Year Treasury yield. At the time we proposed that the Market, being a force far superior to the Federal Reserve, would eventually counter-strike, much to the dismay of the Fed. We also stated that this initial $300Billion figure would be a mere drop in the bucket when compared to the volume of Treasuries ultimately purchased by the Fed. At present, approximately one month after the Federal Reserve officially embarked upon a program of Quantitative Easing, the Market has already counter struck, rendering the practical effect of the Fed's program useless. The yield on the 10 Year Treasury has returned to 3%, the same level it sat prior to the QE announcement.

The sheer speed at which the Market has assessed the Federal Reserve, formulated a counter strike, and implemented said strike is troubling at the least. The 10 Year is by the far the most important part of the Treasury Curve-its yield influences a vast spectrum of financial instruments, including but not limited to Mortgage Rates, the lowering of which has become a centerpiece of Government policy. That the Fed could only influence this rate by 50 basis points, for approximately one month, is a testament to that Institutions dwindling credibility and ability to manage the economy.

As for the Fed's next move, we are sticking with our assertion that Trillions more will need to be committed to the Treasury Market in order to keep the cost of capital sufficiently low throughout the economy. The alternative, allowing the Treasury Market to proceed unimpeded, would be the equivalent of dousing the purported "green shoots" with a solution comprised of 1/2 Raid and 1/2 Arsenic. We think the Fed's next move is quite clear.

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