In their final meeting of 2012, the Fed vowed to
continue the third round of their Bond buying strategy (known as Quantitative
Easing or QE3). They also announced they will begin a fourth round of
Quantitative Easing in January.
But what really took the markets by surprise was the Fed's decision to tie
the Fed Funds Rate (the rate banks charge each other for lending money
overnight) to the Unemployment Rate. Instead of sticking with their plan of
maintaining low rates until "at least mid-2015," now the Fed is
going to hold the Fed Funds Rate steady as "long as the Unemployment
Rate remains above 6.5%."
One of the biggest takeaways from this decision is that the Fed may be more
tolerant of a rise in inflation. Lower unemployment would mean that the
economy is gaining some steam, thanks in part to the stimulus programs like
QE3 that are currently underway, and inflation could easily trend higher in
an improving economy. Remember, inflation is the archenemy of Bonds--and,
therefore, of home loan rates, since home loan rates are tied to Mortgage
Bonds--because inflation reduces the value of fixed investments like Bonds.
Recent reports have shown that inflation remains tame. However, when
inflation manifests, it tends to do so quickly. So the Fed's Quantiative
Easing (as well as inflation) will be important to watch in the weeks and
by Jeff Palermo