Image Source: Pablo Martinez Monsivais/AP
So, Federal Reserve Chairwoman Janet Yellen recently announced plans to reduce their balance sheet, according to this news item from Heather Long at the WaPo.
What's a balance sheet you ask? A balance sheet is a financial accounting of your assets and liabilities, with income and expenses.
The goal of a balance sheet is to "balance" or match your assets to your liabilities and your expenses to your income.
According to the latest quarterly report from the Federal Reserve, their balance sheet consists of a lot of bonds. These bonds were mortgage-backed securities and federal agency debt. The bonds came from assets the Federal Reserve purchased from banks and other financial institutions during the 2007-2009 financial crisis.
Bonds were bought by the Federal Reserve to put downward pressure on interest rates, so the U.S. economy did not go into a tailspin!
These bonds on the books of the Federal Reserve's balance sheet are now starting to "mature." The maturing debt means the Fed is going to receive money for holding the debt all the way to the end of its shelf life.
What this means is that the Fed sees an economic recovery in its advanced stages and wants to strike while the iron is hot with the securities it has on its books. By selling these securities, this reduces the size of the Fed's balance sheet and allows the Fed to normalize its operations.
I have no idea whether the Fed will raise interest rates three months from now or three years from now.
What I do know is that an economic recovery is going to be a long, slow process after the damage caused by Hurricanes Irma and Harvey. Thus, businesses and financial firms will want to see interest rates stay low for the foreseeable future to spur lending for rebuilding efforts.
I don't see the Fed right-sizing its balance sheet as having a material, or negative impact on stock market returns right now or over the next three months. There's no conundrum with the Fed and their ability to balance their books for improving economic fortunes in the United States.
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