Why Yields Stayed Low Despite The End Of Quantitative Easing
Lessons Learned From The Bond Market Surprises in 2014 (Part 2 of 5)
Here’s why: throughout the year, the Fed “tapered” its purchases, ending its quantitative easing (or QE) program in October 2014. With the Fed no longer actively buying Treasuries, some speculated that the end of QE would push interest rates higher. Instead a deceleration of global growth and inflation, along with rising concern about Greece’s membership in the European Union, drove interest rates down.
Market Realist – QE has affected all markets.
The graph above shows the Fed’s holdings since 2010. The Fed purchased Treasuries (TLT)(IEF) and mortgage-backed securities (or MBS) of all maturities. The graph illustrates the pace at which the Fed purchased these securities. In QE3 (the third round of quantitative easing) alone, the Fed purchased $1.7 trillion of long-dated Treasuries.
The Fed introduced QE during the Great Recession in order to stimulate growth in the bruised economy. The Fed intended QE to boost consumption and investment by reducing the cost of funds. QE3 was slowly phased out and ended by October 2014.
The program put downward pressure on Treasury yields, as it created an artificial scarcity of Treasuries. This has helped keep interest rates low. But the winding down of the program since late last year has put upward pressure on yields. Bonds have since underperformed US equities (SPY)(IVV) partly because of that pressure.
However, as we mentioned in the previous part of the series, global slowdown and the Greek debt fiasco kept the Treasury yields down in 2014.
Since many major central banks have introduced their own versions of QE, interest rates in those economies are bound to be ultra low. The US seems to be far ahead, with the Fed poised to increase rates in 2015. This action will attract more funds to the US and thus make the dollar (UUP) stronger.
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