U.S. Markets open in 3 hrs 53 mins

What Are You Expecting from The Fed?

Eric Dutram

The Federal Reserve is meeting for the last time in 2012 and investors are divided on what the central bank will do next. The uncertainty of the Fiscal Cliff has put Bernanke and Co. into a corner, and many are unsure if the Fed will continue or expand its bond buying program, or if they will wait until more is known about the Cliff resolution.

Many economists are, however, more optimistic about Bernanke taking additional steps to help the economy. 48 of 49 surveyed believe that the FOMC will purchase more Treasury bonds to add to the existing QE3 program of $40 billion a month in mortgage bonds.

Obviously nothing is set in stone as of yet, so we could definitely see a departure from this prediction tomorrow. Even if the Fed does embark on another bond buying campaign, the amount of the purchases will be a huge signal to the market and help to set the tone for 2013.

I can see one of the following scenarios taking place tomorrow, which do you think is most likely?

  1. Go Small- Bernanke will do something, but it will be underwhelming. Markets probably won’t like such a tiny move, but Bernanke will be willing to commit more with all the uncertainty on the fiscal side of the equation.
  2. Stop Twisting, Start Buying- Operation Twist is ending this month so Bernanke could continue to buy up $45 billion in Treasury bonds each month, albeit in longer-duration versions.
  3. Go Big- Bernanke doesn’t bother worrying about the Fiscal Cliff and embarks on a big campaign for more buying to drive down rates even further on the long end of the curve. Unemployment is still high and he could reason that the Cliff could end up being a negative for the job market, pushing him to act now rather than later.
  4. Do Nothing- Without some more clarity over the Fiscal Cliff, Bernanke will take a page out of Congress’ book and kick the can down the road on a decision over more easing.

Personally, I think that B is the most likely result. Bernanke won’t wait for the Fiscal Cliff, as either way it could be a period of uncertainty of stocks.

If spending cuts and tax hikes come to pass, it could be a difficult time for job growth, as government employment and aerospace and defense could be hard hit (among others). Plus, it seems as if the expectation is for the Fed to do more at this time, so I think a modest move by Bernanke would be to shift the twist into outright buying, at least until more is known about the Fiscal Cliff aftermath.

What about you? Which of the four scenarios do you think are most likely to happen on Wednesday?

Let us know what you think in the comments below!

Zacks Investment Research

More From Zacks.com