Thursday, December 18, 2008

Quantitative Easing?

The statement from the FOMC meeting included the following:
The focus of the Committee's policy going forward will be to support the functioning of financial markets and stimulate the economy through open market operations and other measures that sustain the size of the Federal Reserve's balance sheet at a high level. As previously announced, over the next few quarters the Federal Reserve will purchase large quantities of agency debt and mortgage-backed securities to provide support to the mortgage and housing markets, and it stands ready to expand its purchases of agency debt and mortgage-backed securities as conditions warrant. The Committee is also evaluating the potential benefits of purchasing longer-term Treasury securities. Early next year, the Federal Reserve will also implement the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses. The Federal Reserve will continue to consider ways of using its balance sheet to further support credit markets and economic activity.
Let's see if I get this. The spreads between treasuries and other debt are too high -- an effect of the flight from risk. So I can see buying agency debt and mortgage backed assets to increase demand, raise prices, and lower yields. This would help borrowers or potential borrowers.   But the treasury buying longer-term treasuries is going to accomplish exactly what?  Flatten the yield curve and reduce the costs longer term debt?  If the 30 year is at 3%, what more could be accomplished?  I don't get it.

However, an attempt to front run any Fed activity could result in investors driving down the price of treasuries.  This may be the problem with the "obvious" but obviously wrong strategy of shorting long term treasuries, like TBT.

They used to say,  "Never pick a fight with people that buy ink by the barrel".  Perhaps one shouldn't short the favored instruments of an agency that buys its ink by the barrel, prints money, and can change the rules mid game.  Something to ponder.

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