Morgan Stanley’s chief stock market analyst says that the Federal Reserve will go to QE4 by year’s end. Why? Because that’s what is needed to boos the stock market.
Question: Since QE3 is open-ended, probably for two years, what meaning does “QE4” have?
Question: Since the Federal Open Market Committee (FOMC) has never referred to the level of American stock prices in its justification for QE3 (or anything else), why does the FOMC care what effects QE3 will have on stocks?
Does the Morgan Stanley guy know something the public does not know? Is he in communication with senior economists of the Federal Reserve, who have given him inside information? I doubt it.
So, why should we believe the following?
At this rate of MBS purchase – and based on prior programs – we see only a weekly 25bp expected return for S&P 500 from QE3. While such a return can accumulate over months, it is dwarfed by weekly S&P historical volatility (2.3% since 1980 and 3.0% since November 2008) – and can easily be swamped by macro, earnings and geopolitical events. This is the main reason we suspect more QE3 (which we will call QE4) will be announced by year-end assuming the EPS trajectory pans out as we suspect.
This is stock market technical chatter. It assumes that there are fixed relationships between numbers. There aren’t. But he thinks there are. For example:
For every $10 billion in additional purchases of mortgage-backed securities by the Fed, the S&P 500 was boosted by about 0.25 percent the following weeks.
The stock market did better in weeks when the Fed bought more assets.
The stock market did better when the Fed purchased MBS than when the Fed purchased Treasuries.
He draws four other major historical conclusions, all of them equally irrelevant for FOMC policy.
He assumes that the FED is targeting stocks. Yet there is no evidence — none — in the official minutes or other records from the FED that indicates that the FOMC has stock market prices as any aspect of its goal.
First, he asks us to believe that there is a cause-and-effect relationship between FOMC policy and stock prices, for which evidence is at best sketchy. Second, he wants us to believe that the FOMC has adopted QE3 in order to affect stock prices, for which there is no documentary evidence. Third, he refers to QE$, which assumes that QE3 will end. But QE3 is open-ended. This is what makes it different from previous QE’s.
He has written a long report on this, which indicates that he has a lot of spare time on his hands.