Tags: federal reserve | bernanke

Investment Winners and Losers from ‘Operation Twist’

By Andrew Packer
Friday, 23 Sep 2011 10:45 AM Current | Bio | Archive

This week, the Fed announced Operation Twist. Or, as I like to think of it, a $400 billion scheme to re-arrange the deck chairs on the Titanic.

The notion behind the plan is pretty simple. By buying longer-dated Treasurys, prices will rise and long-term interest rates will fall. Lower long-term interest rates may help spur investment. By selling short-term securities, their prices will fall and their yields will rise, attracting foreign capital.

If the Fed is successful in lowering long-term rates, investors could get even lower rates on mortgages, while enjoying higher rates on short-term investments like T-bills and money market accounts.

Simply put, if all goes according to plan, Operation Twist would lower expenses and increase income for most investors.

Most economists are of the opinion that the first Operation Twist, launched in 1960, was ineffective. That’s the conclusion reached in a 2004 paper by then-professor Ben Bernanke.

I guess you could say that Bernanke was against doing the twist before he was for it.

Ultimately, I agree with professor, not Fed chairman Bernanke. Operation Twist will fail.

The Fed isn’t expanding its balance sheet, so this policy isn’t likely to spark inflation or higher stock prices. It isn’t really a form of stimulus, because it just shuffles the duration of Treasurys on the Fed’s balance sheet. So it won’t create a single job. Consumers won’t be enticed by lower interest rates, because they either can’t or don’t want to take on more debt.

In other words, Operation Twist is the Fed’s way of re-arranging the deck chairs on the Titanic. The Fed’s big statement on Wednesday wasn’t the twist. It was that America potentially faces years of low growth ahead. That’s the reason for the big sell-off in markets. The economy is still sinking.

Still, Operation Twist could have investment implications. Higher short-term interest rates will be great for cash and fixed-income investments. Investors in such assets will get paid more for holding these safe, liquid investments. We’re probably talking about going from a 0.5% yield on something to a 1% yield though, so don’t back up the truck.

Companies that need tremendous short-term financiering, such as General Electric, could see their margins fall with higher short term rates. With everything else going on, GE makes a great candidate to short.

On the proverbial flip side, lower long term rates are great for anyone looking to buy real estate, or refinance an existing mortgage.

Banks are the biggest loser under Operation Twist, given their traditional business model of “borrowing short and lending long.” Or, rather, they would be if banks were still lending. They still have over $1 trillion in excess reserves stored with the Fed. The rest? It’s invested in Treasurys.

With only $400 billion at stake in Operation Twist, chances are interest rates won’t move enough to show any palpable results.

Expect another round of quantitative easing in the next few months when this policy fails.

 

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AndrewPacker
This week, the Fed announced Operation Twist. Or, as I like to think of it, a $400 billion scheme to re-arrange the deck chairs on the Titanic.The notion behind the plan is pretty simple. By buying longer-dated Treasurys, prices will rise and long-term interest rates will...
federal reserve,bernanke
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2011-45-23
 

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