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VOL. 129 | NO. 104 | Thursday, May 29, 2014

David Waddell

How Low Can We Go?

By David S. Waddell

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With the S&P 500 back at all-time highs, investors may be experiencing a bit of altitude sickness. With the S&P 500 now up 180 percent from the bottom, it’s right to question how much upside remains. However, the better question might be how much downside lies below.

The Stock Market Insurance Cartel
The tremendous emergency support that central banks have provided globally since the crisis not only forestalled an echo crisis, but significantly boosted ALL asset prices worldwide. With that in mind, the global central bank cartel provides investors with an AAA insurance policy should global economies or markets falter. Let’s survey central bank policy postures worldwide to assess our current coverage levels.

US Federal Reserve
The U.S. Federal Reserve has held short-term interest rates at near zero since late 2008. Though “tapering” its quantitative easing program, the Fed is still purchasing $45 billion in securities every month. The $10 billion wind down at every meeting project that asset purchases will conclude in the fall. The US central bank continues to stimulate, albeit at a slower pace.

European Central Bank
By using forceful language like “we will do whatever it takes,” ECB chair Mario Draghi has managed to hold long-term interest rates in check without actually doing anything. Given the relative restraint of the ECB, the euro currency has been relatively strong. This reduces the competitiveness of European exports and limits inflation. With the euro overvalued, the European economy sluggish and deflation threats building, the ECB needs to act. At the last ECB meeting, Draghi committed to action at the June 5 meeting. The European Central Bank is preparing to increase monetary stimulus.

Bank of Japan
Sick of a strong yen, low inflation and tepid growth, Japan committed to massive stimulus measures as part of a bold economic recovery plan instigated by Prime Minister Shinzo Abe in late 2012. The Bank of Japan dutifully initiated a heroic asset purchase campaign that has grown its balance sheet by nearly $1 trillion since initiating the program. BOJ head Kuroda targets a stable 2 percent inflation rate currently running at 1 percent. In Japan, the boldest monetary stimulus program on the planet will continue indefinitely.

Bank of England
The Bank of England pursued its own version of a near zero short-term interest rate policy and quantitative easing. The Bank of England began its QE program in early 2009 with 75 billion pounds in assets and holds 375 billion today. The English economy accelerating toward 3 percent has led some to call for reductions in monetary stimulus. The BOE will likely continue its holding pattern, but pressures are rising to raise rates.

Bottom Line
While the Bank of England may have stopped purchasing assets and the U.S. Fed is reducing asset purchases, their measures are being offset by large purchases in Japan and newly pending purchases in Europe. Therefore, globally, central banks remain very accommodative, providing healthy insurance coverage levels beneath these newly reclaimed stock market highs. Remember this old investment axiom and “Don’t Fight the Fed!”

David Waddell, who is regularly featured in the Wall Street Journal, USA Today and Forbes, as well as on Fox Business News and CNBC, is president and CEO of Memphis-based Waddell & Associates.

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