Posted By: Matthias Paul Kuhlmey
While we wondered how Quantitative Easing (QE) would be continued in a more camouflaged fashion after the official end of QE2, in an act of brilliance, our answer has arrived! Yesterday’s announcement to release 30 million barrels of Oil from the Nation’s Strategic Petroleum Reserves acted as a powerful market mover. During market hours, the price of Oil was down more than 5%, trading below USD 90/barrel for the first time since February. Interesting to note that it is only the third time the International Energy Agency (IEA) has tapped reserves; the first time was in 1991 during the Gulf War, and the second was when Hurricane Katrina had severely limited Oil production in the Gulf of Mexico in 2005.
What an act of desperation. Mr. Bernanke and team knew that something had to be done. Just on Wednesday, the Federal Reserve Chairman reinforced his concerns about a weaker U.S. economy; this on the backdrop of an equity market that had had fallen quite considerably over the past weeks, and a real estate market that is, for lack of a better description, shattered. The only “card to play” was to help lift equity markets at any cost, as these are closely linked to the perceived well-being of the U.S. consumer (Wealth Effect).
Interestingly, yesterday’s intervention into the Oil market may actually work – for now. The event can be compared to a global coordinated rate cut. Lower, and continued lower, Oil prices will benefit consumption and consequentially support the domestic economy (consider that every time pump prices spiked over USD 3 per gallon, the U.S. economy experienced an offsetting drop in consumer confidence). Emerging Markets, on the other hand, will experience less of an inflationary threat to their respective economies, which has been a drag on growth and equity performance in the region in recent months.
All in mind, global equity markets remain at a very critical juncture; if the support of March 2011 will give way, market participants could easily experience another -10% drop in prices. Should, however, the current support line hold (around 1257 in the S&P 500), a significant rebound may be forming. We have quietly removed our hedges yesterday morning, when the world looked all too miserable, but we are prepared to add this downside protection back to accounts, if the situation deems it necessary.
Good bye QE2, hello QE3.