So the Fed didn't taper, risk assets are rallying (although they are pulling back today in a post Bernanke hangover), and bond yields are falling. Perhaps the most important yield to fall is the 30-year mortgage rate, which fell back to its lowest level for a month after the Fed announcement. One of the reasons the Fed decided to stay its hand was because the prospect of tapering had caused the housing market recovery, which started in 2011, to stall. The housing market is huge in the US, not only does it create a large amount of employment and growth, i.e., retail sales are mostly made up of what people buy for themselves or to put in their homes, but it is also a key ingredient in consumer and investor confidence. If your house price is rising then you feel rich.
It's all about housing
So, a threat to this important sector of the economy could not be tolerated by the Fed. As you can see, the 30-year mortgage yield is still a full 100 basis points above where it was back in May, before Bernanke had riled the market with his taper talk to Congress. Thus, the Fed could take its time with tapering for as long as it takes the housing market to get back into recovery mode.
The Fed's pyrrhic victory
Essentially, the Fed didn't end up having to do anything yet it got the desired effects - back in May, by touting tapering, it helped life interest rates, thus averting bubble territory, now by refraining from tapering yields have backed away from recent highs. But Bernanke is no market Svengali, his move last night is still costing the Fed $85bn a month in asset purchases, the Fed's balance sheet is still enormous, at more than $3.6 trillion. QE-3 can't go on forever and tapering will happen, but right now the Fed is taking its time over ripping off the plaster. When will it have consequences? It depends when the size of the Fed's balance sheet become a problem. Will it be accused of monetizing the US's enormous debt when it hits $5 trillion, $10 trillion? Who knows, but the Fed is playing a dangerous game and will have to rip the plaster off the wound at some point and it won't be pretty.
The Fed does the ECB a favour
In contrast, Mario Draghi has managed to talk the Eurozone sovereign crisis down without spending a penny - the ECB's balance sheet has been shrinking rapidly since the start of this year and is 20% smaller than it was in January. In fact the Fed did the ECB a favour - the rise in Treasury yields since May had weighed on global G10 yields, pushing up borrowing costs for Spain, Portugal etc. These countries already have precarious finances, so rising borrowing costs were starting to cause some concern. Now that tapering has been put firmly to bed, yields in Europe's periphery have fallen.
Post FOMC ECB cheer could be short-lived
The biggest problem for Draghi could be a rising EUR. EURUSD jumped to its highest level since February post the FOMC meeting. Back in early Feb when EURUSD jumped above 1.3600 the ECB managed to talk it down by some 800 pips in 6 weeks. However, in the coming days, a win for Merkel, and for the FDP party, which would avoid a grand coalition with the Social Democrats, may drive a relief rally in EURUSD on Monday. However, if we make fresh 12 month highs in the coming days in EURUSD this increases the risks of intervention from the ECB at its October meeting.
The effects of the Fed bottling it on tapering last night could be felt for some time.
It's all about housing
So, a threat to this important sector of the economy could not be tolerated by the Fed. As you can see, the 30-year mortgage yield is still a full 100 basis points above where it was back in May, before Bernanke had riled the market with his taper talk to Congress. Thus, the Fed could take its time with tapering for as long as it takes the housing market to get back into recovery mode.
The Fed's pyrrhic victory
Essentially, the Fed didn't end up having to do anything yet it got the desired effects - back in May, by touting tapering, it helped life interest rates, thus averting bubble territory, now by refraining from tapering yields have backed away from recent highs. But Bernanke is no market Svengali, his move last night is still costing the Fed $85bn a month in asset purchases, the Fed's balance sheet is still enormous, at more than $3.6 trillion. QE-3 can't go on forever and tapering will happen, but right now the Fed is taking its time over ripping off the plaster. When will it have consequences? It depends when the size of the Fed's balance sheet become a problem. Will it be accused of monetizing the US's enormous debt when it hits $5 trillion, $10 trillion? Who knows, but the Fed is playing a dangerous game and will have to rip the plaster off the wound at some point and it won't be pretty.
The Fed does the ECB a favour
In contrast, Mario Draghi has managed to talk the Eurozone sovereign crisis down without spending a penny - the ECB's balance sheet has been shrinking rapidly since the start of this year and is 20% smaller than it was in January. In fact the Fed did the ECB a favour - the rise in Treasury yields since May had weighed on global G10 yields, pushing up borrowing costs for Spain, Portugal etc. These countries already have precarious finances, so rising borrowing costs were starting to cause some concern. Now that tapering has been put firmly to bed, yields in Europe's periphery have fallen.
Post FOMC ECB cheer could be short-lived
The biggest problem for Draghi could be a rising EUR. EURUSD jumped to its highest level since February post the FOMC meeting. Back in early Feb when EURUSD jumped above 1.3600 the ECB managed to talk it down by some 800 pips in 6 weeks. However, in the coming days, a win for Merkel, and for the FDP party, which would avoid a grand coalition with the Social Democrats, may drive a relief rally in EURUSD on Monday. However, if we make fresh 12 month highs in the coming days in EURUSD this increases the risks of intervention from the ECB at its October meeting.
The effects of the Fed bottling it on tapering last night could be felt for some time.
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