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The Fed and Markets

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Our Value Investing US Equity Approach
February 11, 2022
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During the Covid-19 Pandemic, the US economy experienced significant turmoil. From the closure of food and retail outlets to upheaval in industries like real estate, hospitality and transportation, the Pandemic spared very little.

In order to cushion the impacts of sinking economic activity, the Federal Reserve (Fed – The Central Bank of the United States) ramped up its bond buying program by 100%, effectively buying over US$4Tr in bonds taking the Fed’s balance sheet to almost US$9Tr while keeping interest rates at 0%-0.25% level. These loose monetary conditions allowed for lots of borrowing and a pick-up in spending activities which positively impacted Equity Markets.

Before Covid-19 became an issue, the Fed‘s focus has been reaching their PCE inflation target of 2% (Personal Consumption Expenditure – the Fed’s preferred measure of inflation). Post the initial effects of Covid-19 including supply chain issues the Fed’s inflation measure, Core PCE crossed the Fed’s 2% target and now measures 5.7% Year on Year from November 2020 to November 2021. The Fed is now looking into raising interest rates as early as March 2022 in order to combat rising inflation. When the Fed increases interest rates, it encourages people to save more and spend less, reducing inflationary pressures and also curbing economic activity to some extent.

The Fed is also engaging in talks of reducing their balance sheet soon after they increase interest rates. In the recent past, talk of this has caused investors to panic, with markets falling by 10% to 11% on average. When the Fed decreases bond buying, it decreases the money supply to banks, which means the banks have less money to lend. This reduces borrowing by the general public and suppresses economic activity. With the tapering of the bond buying program expected, markets will likely react negatively.

Conclusion

It is likely that markets will continue to be volatile for the upcoming months as the Fed takes action to tighten monetary policy. This market volatility can present buying opportunities to add to your portfolio. With a focus on long term investing, your portfolio should be able to weather the short term volatility in the US market.

If you are interest in investing in the US Equity Market, contact one of our Wealth Creators for financial advice.
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