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As very many people ought to mention when they discuss a topic like the quantitative easing (QE) programs, "I am not an economist." Although we are not economists, it does not mean that we should not question the actions of the Federal Reserve (Fed). It is dangerous to agree with people in power simply because they are in power or they are more expert on a topic than you are. It is meant to be the nature of our society to question. That said, I do not think the QE programs are nearly as risky as some people do. You can see this in reading my articles published about a week or two ago entitled "Your Retirement Investments: Stocks vs. Bonds," "Your Retirement Investments: Addressing the Bonds Dilemma" and "Future Inflation's Likely Impact on Bonds."

There are fears that the Fed will not be able to sell the Treasuries and/or mortgage-backed securities (MBSs) purchased and to be purchased via the QE programs when desired. There are fears that, even if the securities can be sold when desired, the sale prices will be relatively rather poor; and the Fed will experience a large loss on its balance sheet. There are related and additional fears as well.

It is extremely likely that there will be a healthy market for Treasuries and MBSs when the Fed wants to sell them. The U.S. Treasuries market does not figure to experience significant pressure until after the eurozone financial crisis and economic growth issues have been nearly fully resolved. Even then, Japan, and not the U.S., may be next in line to experience significant debt market pressure, as its debt-to-GDP ratio is more than twice that of the U.S. (i.e., well over 200% versus a bit over 100%). Other countries are candidates to experience significant debt market pressure before the U.S. as well. Even less another country or countries experiencing significant debt market pressure before the U.S., the U.S. may get away with adding to its debt, relatively cheaply, for many years to come. For the time being, the U.S. dollar is, by far, the world's most important currency. This is changing and will continue to change, but this change has been and will continue to be gradual. When the U.S. debt is a lot larger and the U.S. currency is much less important, the U.S. Treasuries market figures to get a lot, versus a little, uglier. (I would discuss a scenario whereby the U.S. does not continue to significantly add to its debt level in the upcoming years; but it is not my goal to make you laugh.)

The U.S. Treasuries market has not dried up in an extremely long time, if ever. By "dried up", I mean that there is no ability to sell the securities at any sort of a reasonable price. The MBSs market dried up, at least somewhat, during the financial crisis. This shows that something like this can happen. I don't see the MBSs market drying up again for many years to come because, among other reasons, we just experienced a hard lesson in the kind of conditions that can lead to the phenomenon. We are much better at handling things we recently failed at. We are poorer at handling things we haven't failed at or haven't failed at for a long time.

It is important to remember that MBSs are bought and sold at market prices that assume, what is believed to be, an appropriate amount of default risk. Furthermore, most MBSs (i.e., over 80% as of 2Q 2011) either can't default (Ginnie Maes) or have U.S. government support that greatly lessens the probability of default (Fannie Maes and Freddie Macs). The U.S. government, versus the Fed, can take default-related losses on some of the MBSs; but housing prices appear to have bottomed already and have been moving up. They are currently at a level that is in the ballpark of normal in the context of the long history of U.S. housing market prices. The U.S. government appears to have already largely, if not entirely, absorbed the hit from the big fall in housing prices.

When the Fed backs out of its special support for the housing market, prices could go down again; and the U.S. government could take another hit. On the other hand, home lending standards have been tough since the financial crisis. When these standards loosen some, it will help housing market prices. Even if the U.S. government does take another hit related to housing prices, it figures to absorb it relatively well, as it did the prior one. This hit should not be nearly as big. There is no housing market bubble now.

In the extremely unlikely event that there is not a healthy market for Treasuries or MBSs when the Fed wants to sell its QE holdings, the Fed can, potentially at least, substitute other monetary policy for the sales, in part or in whole. There is no hard rule that says that the Fed has to sell the securities or sell the securities at any given point in time. It figures that the Fed will ease out of its QE positions over time, just as it has eased and will ease into these positions over time. This will make backing out of the positions easier and make the sale prices better than they would have been otherwise. The Fed figures to do this easing out of the QE positions prior to raising the Federal Funds Target Rate from its current 0.25-0.00%. It is not forced to proceed in this order though.

So far, the Fed should have a big gain on its QE purchases. Treasury prices are way up since the Fed bought, and MBS prices are up significantly. Still, Treasuries and/or MBS prices may be relatively unattractive when the Fed wants to back out of its QE positions. Things could unfold this way. The Fed could take a seeming loss on its balance sheet.

I don't think the potential QE-related Fed balance sheet losses are a large concern. The Fed created liquidity in making the QE purchases. If, when it sells the QE purchases, it sells at a loss, it's a loss of funny money, as a lot of people like to call it. It means that it will have withdrawn somewhat less liquidity than it created when it made the purchases. It may mean that it ends up increasing the Federal Funds Target Rate sooner than it would have otherwise, or whatever, to control inflation as desired. I think this is the extent of the risk, i.e., that the Fed will have to do a little more than desired to control inflation, thereby having a small dampening effect on future economic growth.

Recognize that this scenario may play out the other way around. The Fed may sell at better prices than it bought at. It seems likely to me that, overall, the sale prices will be about the same as the purchase prices. Remember that the Fed can end QE3 anytime it wants. It can then either stay neutral for a while or begin tightening immediately. In anticipation of and during Fed tightening, interest rates should rise; but, theoretically, this rise should be about equal in proportion to the fall in interest rates experienced in anticipation of and during Fed loosening because the Fed will be selling the same amount of securities that it purchased. In practice, the situation is much more complicated, since, for instance, the eurozone crisis has had and will continue to have a strong influence on U.S. Treasury interest rates. I believe the eurozone will continue to resolve its issues, and this will exert a rising influence on U.S. Treasury interest rates. Up until now, the eurozone crisis has exerted a falling influence on U.S. Treasury interest rates; so the overall affect of the eurozone crisis on the QE portion of the Fed's balance sheet may be about nil.

Usually, at least, the Fed has a profit each year that it almost entirely provides to the U.S. Treasury. If the Fed experiences a loss on its QE transactions, these profits will be lessened or negated. The Fed transferred $79 billion for 2010 and $77 billion for 2011 to the U.S. Treasury. The temporary loss of amounts like these would not be tragic for the U.S. government.

Regarding the size of the QE, I don't think of it solely in comparison to money supply measures. I don't think this is appropriate. Too much money ends up in other assets for this to be appropriate. That said, M2 is at about $10 trillion; and M2 does not include CDs over $100,000, Eurodollars, repurchase agreements, commercial paper, or bankers' acceptance. QE1 was for $1.7 trillion, QE2 was for $0.6 trillion, and QE 3 is for $40 billion per month indefinitely (beginning in September '12).

The total value of the U.S. bond market seems to be over $35 trillion (with $8.5 trillion in MBSs as of 2Q 2011), total U.S. debt is over $15 trillion, the total size of the U.S. stock market seems to be over $20 trillion, the total size of the U.S. real estate market seems to be about $37 trillion (with residential real estate accounting for a clear majority), etc. The QE programs are tweaks. Backing out of them will be tweaks. It is not as big of a deal as it can seem on the surface. I think of each QE program as somewhat like lowering the Federal Funds Target Rate by a fraction of a percent (with the size of the fraction depending upon the size of the program). Since we are already at a Federal Funds Target Rate of 0.25-0.00%, the Fed is doing the QE programs instead.

The Treasuries purchases are clever because the U.S. government can borrow at lower rates and should be doing more long-term borrowing now. Even if the government is not doing more long-term borrowing now, the lower Treasury rates are still helpful to them. The MBS purchases are clever because the residential housing market is still under some unusual strain. Lending standards should have gotten tougher, but not this tough. At this point in time, the banks are more concerned with building capital reserves and other issues, versus lending, than is usual. The Fed's buying of MBSs is helping to normalize the market.

Even though we should question the Fed's actions, we should also recognize that the Fed is far less political than many other U.S. institutions. A large amount of Fed thinking is, genuinely, geared toward attempting to do what is best for the country. Partially, this is because, if the Fed does not keep inflation at a healthy level, we are almost all harmed, whether rich or poor or Republican or Democrat. We should also recognize that Ben Bernanke did not decide to do the QE programs on his own. The Federal Open Market Committee decided. Ben has a lot of pull within the committee; but it was still very much a team decision. Some of the people on the committee, and/or the people who can end up the committee (i.e., the regional Federal Reserve Bank presidents who are not currently on the committee), did not agree with the decision to do a certain QE program(s); but none of them has expressed a fear that the sky will fall. The people who can and do serve on the committee are financial experts, and some of them are monetary policy experts. There is, still, something to be said for being an expert.

Don't let fear of QE keep you from being invested. Simply staying invested, versus hiding in cash, is one of the best strategies for growing your portfolio value. Stock and bond investments create net gains much more often than they create net loses. In your retirement portfolio, stocks should be overweighted versus bonds and/or your bond (potentially including CD) investments should be more conservative now. In your non-retirement portfolio, there is no need to invest in bonds. There is little opportunity in bonds now, but investment-grade municipal bonds are a strong choice among bonds. Fear of QE should not be keeping you out of investments such as SPDR S&P 500 (NYSEARCA:SPY), Vanguard MSCI Emerging Markets Index (NYSEARCA:VWO), iShares S&P 500 Index (NYSEARCA:IVV), Vanguard Total Stock Market ETF (NYSEARCA:VTI), iShares Russell 2000 Index (NYSEARCA:IWM), iShares S&P MidCap 400 Index (NYSEARCA:IJH), SPDR S&P MidCap 400 (NYSEARCA:MDY), iShares S&P National AMT-Free Muni Bond (NYSEARCA:MUB), SPDR Nuveen Barclays Capital Muni Bond (NYSEARCA:TFI), or PowerShares Insured National Muni Bond (NYSEARCA:PZA).

Source: Why QE Isn't Scary: A Layman's View

Additional disclosure: I manage a portfolio which includes investments in VTI and IJH.