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Why the Fed sees diminishing returns from quantitative easing

Brent Nyitray, CFA, MBA

Important takeaways from the December 2013 FOMC minutes (Part 1 of 8)

The Federal Reserve usually releases a more detailed account of its Federal Open Market Committee (FOMC) meetings a month or two after the initial meeting

When the Fed meets for its FOMC meeting, it usually puts out a press release that hits the highlights of the decision and gives a brief economic synopsis. Sometimes the release accompanies a press conference. Analysts will usually compare the current statement with the previous one and try to divine the Fed’s thinking by noting any changes in language. The FOMC minutes of the meeting are much more in-depth and are usually ten to twenty pages long, with graphs and a discussion of both sides of the argument. Instead of simply giving the argument for dissenters, it gives the analyst a feeling for the current discussions. Commercial REITs like Simon Property Group (SPG), Boston Properties (BXP), Kilroy (KRC), Vornado (VNO), and S.L. Green (SLG) are highly interest rate–sensitive, and therefore will parse the minutes to get a read on the economy and the Fed’s intentions.

Bond reaction to the minutes

Bonds were already heavy from the stronger-than-expected ADP jobs numbers, and the FOMC minutes pushed them over the edge. The ten-year bond yield intraday increased about a basis point and then ended up falling back about half a basis point. Overall, the mystery of Fed tapering has been largely taken out of the market after the December move, and the market has absorbed the idea that the Fed will continue to reduce asset purchases in a measured fashion.

The Fed sees diminishing benefits from asset purchases

In the minutes, a number of Fed participants noted that the law of diminishing returns was beginning to take effect in quantitative easing: “A majority of participants judged that the marginal efficacy of purchases was likely declining as purchases continue.” Participants also worried about the unintended consequences of asset purchases, especially “excessive risk taking in the financial sector.” The size of the Fed’s balance sheet recently passed the $4 trillion mark, which is a massive increase from the sub-$1 trillion mark it had prior to the crisis.

Continue to Part 2

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