Power & Market

Was That the Dip?

A few days from now marks the one-year anniversary of the article: Will You Buy the Dip? It was there I told everyone I know that eventually the Federal Reserve will conclude its Quantitative Tightening (QT), and a new round of Quantitative Easing (QE) would emerge. This was both inherent and inevitable due to the inflationary nature of central banks. So the idea was to buy the stock market once the Fed resumed the QE process.

The question is: Did last Sunday’s announcement of the Bank Term Funding Program usher in a new easy money era, i.e., was this the dip / pivot / stock market buy signal?

Consider the last two years of the Fed’s balance sheet. Between March and May of 2022, the Fed’s assets topped out at just under $9 trillion. Since then the Fed began its slow descent into QT, where last month it reduced its balance sheet, composed mostly of US Treasuries (UST) and Mortgage-Backed Securities (MBS), by around $80 billion a month. During this entire round of QT the broad stock market made no new highs and has instead slowly declined.

The Fed’s balance sheet has also become quite interesting as of late:

Fed's Balance Sheet on a graph

Incredible! It took one year for the Fed to reduce the balance sheet by $600 billion, and in just one-week, from March 8-15, the balance sheet increased by $300 billion!

This is what I was referring to, some event or crisis occurring that would be used as an excuse to get the Fed to return to the market… but human action is complex, and nothing seems to go according to plan. The increase in the balance sheet is not a result of the Fed buying-up more US debt or mortgage securities. As far as the public is aware, the Fed is still committed to QT via rolling off its existing UST and MBS holdings.

The balance sheet increase actually came from the loans the Fed granted for troubled bank relief. Details in the Fed’s notes reveal the elements comprising the $8.689 trillion balance.

Notes on the balance sheet

Loans amounted to $318 billion, whereas a week prior, it was only $15 billion. The current $318 billion consists of Primary credit ($152 billion) and Other credit extensions ($142 billion). The new Bank Term Funding Program only accounted for $11.9 billion.

On one hand the Fed is reducing ownership of securities owned (loans to government), but on the other hand it’s creating money to loan to banks. It would be great to know how large this temporary one-year program will get, but we’re not privy to this information. However, with no limits on how much the Fed could create, it could amount to trillions of dollars.

Like the World Bank and IMF which grant loans to bankrupt nations, only to make them worse off by ending up in more debt, the Fed appears to be engaging in a similar scheme. By lending to bankrupt institutions, the hope is that within a year from now these failed banks will be better off than they are today, paying back the Fed in full plus interest.

The new funding program may very well push the Fed’s balance sheet to new all-time highs, and if it were to expand by a few trillion dollars more, one could expect to see this reflected in asset prices. But having no idea as to how big these bank loans will get, coupled with the Fed’s continual shredding of UST and MBS holdings, I still lack conviction that the Fed is serious about pumping the stock market back to new highs at the moment. Good luck in your trades.

Note: The views expressed on Mises.org are not necessarily those of the Mises Institute.
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