An Investigation Into The Market's QE Expectations

Tyler Durden's picture

In the past, we have digested in painful detail the theoretical impact that QE will have on equities (initial euphoria and long, hard leg down), rates (constant drop in yield to zero as Fed is forced to not only buy up every piece of government paper, but to outright monetize auctions), and on the monetary system in general (the beginning of the end for the dollar). Yet the practical impact of QE always ends up being something very much unpredictable, and is what happens when the market is making other plans. Which is why the following piece from Shadow Capitalism, titled, "A delve into the current discounting of QE expectations and its market implications going forward" is particularly useful reading for those who wish to determine just how the market participants are evaluating the impact of QE2 in practical terms.

Quick note: we disagree with the TMM assumption that excess reserves can be discounted using 1 Year rates, as this is a shotgun assumption, and has absolutely no bearing on the key question brought up yesterday by Morgan Stanley, which has to do with where on the curve the Fed will be purchasing - after all, excess reserves are the effect of the purchase, while the cause is the presence of a biddable Treasury. Furthermore, yields have lower bounds, while the liability side of the Fed's balance sheet is, in theory (and in hyperinflationary practice), endless. Furthermore, it is not the banks' balance sheets that will be gating factor, but the supply of Treasuries in the open market (and at auction), that will be the determinant of the S/D curve interception during the QE2 regime.

A delve into the current discounting of QE expectations and its market implications going forward (pdf)


Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
Ludwig Von Miso Soup's picture

In Bernanke's deflation speech, he said, "By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation."


Is QE2 his credible threat to do so? Anyone have opinions on this?

frankTHE COIN's picture

1st a question. Were your " quotes " word for word or paraphrased and interpreted ? On the surface, the wording is not what he would have said.

We would have already crashed.

Once you let us know , we can answer your question.


Minion's picture

It hasn't raised housing prices - the very prices that precipitated the insolvency of the banksters in the first place. 

Tall Tree Man's picture

Bernanke is embarking on a science experiment on the entire world's financial system.  He thinks he can open Pandora's box for just a short while and then put everything back in at a later date.



Spirit Of Truth's picture

Yep. The global financial system has been placed into the hands of a mad economic "scientist" who thinks he can shape human mood and behavior with his fancy mathematical models and the money printing press.  Economists start with the assumption of human "rationality" and then reap havoc from there.  We are witnessing a collective historical error of staggering proportions.

SteveNYC's picture

Sounds like a pretty good way to impoverish the masses. Perhaps Ben should, at some point in his life, have a run in with a group of impoverished masses and give his "deflation speech".


"Well everybody, I saved the economy by raising the prices on your tinned food, your gas, your heating oil, and every other necessity you use on a daily basis. I'm a Princeton economist, you should thank me for this, I saved the world! Look, I magically created inflation!! My thesis came true!"


Then the guillotine is rolled out....

chistletoe's picture

it  is working ...


Basically we have a society where

more and more individuals can receive more and more money

without performing any service or producing any goods,

while fewer and fewer people are receiving compensation for work performed.

The people who are still working are becoming more and more resentful

(and disrespectful of the others

and they are starting to demand more and more compensation for what they do.


Thus inflation and hyperinflation are riding in the tide

with scarcity and shortages of goods not far behind ...

Miles Kendig's picture

I suspect that about 15-20% of this next round will go +10 since that will have the greatest impact upon pancaking rates generally.  So, the average may print 7 or there abouts, but how much pomo will be going on and how will that morph....  Most especially in the -3 and potentially direct purchases of rolling CRE and other private paper 

themosmitsos's picture

Tyler, DITO on the discounting reserves, you can't do that when they have no intention of ever using them. 10yrs'll do 1.75. But the market is trying to discount QE. FED'll bid x entire curve

R.Temple Bligh's picture

Does anyone else think that a shock and awe approach of 4-7 trillion may scare the hell out of the market?



frankTHE COIN's picture

I agree with you. The smart money ( that at the moment ) was'nt the smartest this time, will bail and sell, liquidate, big time.

nmewn's picture

They would want to halt gold first...somehow...but it's not working out for them.

I keep thinking an appeal to patriotism will be first...turn it all in (your past labor/savings) for the good of the country and so forth.

Then the threat of law if you don't.

Then swamp the system...they have nothing to lose and everything to gain by this tired old approach.

It's a shame really...currency backed by faith & credit...which doesn't have either...just a printing press.

This is not just is global. Our children deserve better.

Hephasteus's picture

That's the problem. They were wanting a HUGE crash in 1980 and they didn't get it gold way overshot. They wanted a small crash this time. The insiders jumped out of gold and just like the great depression... It will crash AGAIN and gold will keep going up.

That's the inherent problem with global bank robbery. No way to know how long it's safe to stay in the vault  before the citizen patrol comes in.

Nihilarian's picture

Central Planning Credo: "Doing nothing is not an option."

nonclaim's picture

If you do nothing and it (the economy) fails you get the blame.

If you do something and it fails you can always *say* you were trying to do good, even if by design you made it worse. You win, everybody else loses.

Tall Tree Man's picture

Two things that have not been sufficiently discussed:

1) Will the Fed stop paying interest on parked bank reserves?   Bernanke has suggested this as a possibility.  This has immediate effect on banks.


2) Brian Sack suggested a more data driven program: how about Bernanke's 2002 idea of targeting a yield and enforcing it regardless of cost.  Say 2% on the 10-year.  Potentially this is a "cheaper" solution - because the market just believes BB and never bothers to test him.



Prof Gulliver's picture

I don't think Bernanke would go there. The UST market is too big to be controlled by one man with a nutty plan. One twitch from China, and the emperor will be standing there with no clothes.

Bear's picture

Then gold topped at 1366 ... at least for a while?

Johrny Bravo's picture

It will reach $700 before it hits $1366 again

Goled to $54000000 Britchez!

Hephasteus's picture

Gold is being bad. Violatin it's curfew.

tom a taxpayer's picture

Thanks Tyler, Shadow Capitalism, and Naufal Santuallah. A real think piece. I was looking for a light dessert. But Naufal's article serves up 100 pounds of meat to chew over. A challenge to digest after dinner, but definitely worth the effort. 

Goldtoothchimp09's picture

get 3 back-to-back-to back 100+ point losses in the DOW...and watch what happens....joe bloe will freak knowing it's a sure sign up the meltdown he already feels.

MacHoolahan's picture

The US (and UK) taxpayer has been spectacularly robbed. I'm hopeful that not a soul on ZH would disagree.

Are there any movements afoot to not pay our taxes? It's the only "strike" we have.


Forget the tea-baggers (is that right?) and the unions. A mass movement could derail Obama's bank-bum-boy routine. It's got to be time.

Idiot Savant's picture

A mass movement could derail Obama's bank-bum-boy routine.

Dream on, the government and large institutions have done too good of a job fracturing the American populace. The masses will not work together for a singular purpose. Any movement will immediately be highjacked, just like the tea party.

Unless you're referring to Obama because he's the current president, you've proved my point. Bush and Obama are two sides of the same coin. A coin that's controlled by, well, I don't know who's running this country, but it's not the president. He's nothing more than a hood ornament.

Americans should be ready to hang all politicians, but here we are still bickering over partisanship. It's for this reason the elite have nothing to fear. Just as HFT algos will soon be eating each other in the equity markets, so will the American populace once things get nasty.

MacHoolahan's picture

Agree it's a dream - Americans will just get poorer and poorer: "as long as you boil the frog slowly" etc...


Sill horrible to watch - brave country once.

MacHoolahan's picture

No taxation without representation.


Think that's what I'm saying.... ;)

Bear's picture

I don't mind the Taxation but the Representation really sucks ... I'd be fine "without representation"

daniel's picture


ucvhost is a leading web site hosting service provider that is known to provide reliable and affordable hosting packages to customers. cheap vps company believes in providing absolute and superior control to the customer as well as complete security and flexibility through its many packages................  windows vps Moreover, the company provides technical support as well as customer service 24x7, in order to enable its customer price. Thanks forex vps