Old news first…
As you know, the Fed upped the ante in mid- to late 2012 when it launched its biggest quantitative easing (QE) program yet. Its efforts did revive the economy, which was flat-lining at near zero growth in Q4 2012.
Yet despite the continued injection of $85 billion a month, the economic response to Fed efforts has become increasingly muted.
We’ve warned about this inevitable decline in the effectiveness of QE for years. We’ve always said it takes more and more stimulus, like any performance-enhancing drug, to create less and less effect. At some point you collapse, hit bottom or even die from the side effects of the drug.
Now the breaking news…
We’re nearing the end.
The chart below shows the rising Federal Reserve balance sheet thanks to its unprecedented stimulus and money-printing programs to stimulate the economy.
As you can clearly see, the trajectory of the last QE3 stimulus program is longer and steeper than QE2 (late 2010 to early 2012).
QE1, in late 2008 and early 2009, was the most dramatic program, but that was about reversing an accelerating financial meltdown as Lehman Brothers collapsed and AIG and General Motors teetered on the edge, not to mention many major banks and financial institutions crumbling under their own greed.
The first two quarters after QE1 averaged 2.6% real GDP growth.
The first two quarters after QE2 in mid-2010 averaged 2.3% growth.
Now the first two quarters after QE3 have averaged only 1.7% growth.
There is simply no way we are going to match the trajectory of 2011 that saw a peak rate of 4.6% growth in the fourth quarter of 2011.
All of this brings to light the evidence and truth behind our forecast. The Fed can’t stimulate forever. Eventually it will face checkmate.
Every round of stimulus will have to be even stronger and bigger than anything that came before, and it will only create less impact. This is already evident in the rebound from the fourth quarter of 2012.
The Fed surprised us all on September 18 by not tapering when the market had already priced in a $10 – $15 billion per month cut-back in bond buying. When it did that, it lost a golden opportunity to start becoming more responsible without facing the wrath of the markets.
Instead it chickened out and opted to not taper.
Bernanke stated that there was not enough evidence of economic growth to justify it.
So the Fed isn’t that comfortable with the economic recovery. Neither are we. But that shouldn’t be good news, and the markets are likely to correct ahead. We expect up to a 10% correction in stocks into October and then a final rally into early 2014 before the Dow peaks somewhere just north of 16,000.
Then look out below as stocks could crash again well into 2015 or so, just as they did in 2000 to 2002 and 2008 to early 2009.
The first half of 2014 is the highest risk period ahead, because that’s when our best long-term and shorter-term cycles collide negatively, just as they came together positively in October of 2002, giving one of the strongest buy signals in the history of my first newsletter, HS Dent Forecast.
Be safe from mid-January of 2014 into the summer. That’s when the next crash is likely to start, especially by late March of 2014.
We will re-evaluate after the summer of 2014 when our shortest-term cycles start to lighten up a bit. Stay tuned.
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Ahead of the Curve with Adam O’Dell
Last Friday’s Bureau of Labor Statistics’ (BLS) jobs report was the “one that never was.” Thanks to the U.S. government shutdown, the market is flying blind in the absence of this month’s tally of those working, not working, not-working-not-looking, etc.