The Federal Reserve’s Fed Funds Rate is¬†a target¬†interest rate at which banks¬†may lend money to each other overnight. For years, the U.S. central bank has targeted the rate¬†at a paltry 0.00%-0.25%. And based on Bernanke’s comments one week ago, expect the bulls-eye to remain¬†at 0.00%-0.25% for several more years.
Economists generally acknowledge that lowering rates for financial institutions trickles down to the customers and stimulates¬†economic activity. In essence, when banks can borrow for less, they¬†seek more customer dollars by offering competitive rates. The more desirable the rates, the more lending and… ultimately… the more spending.
Then again,¬†expected outcomes¬†may not always come to fruition. For example,¬†the bond market determines the yield on 10-year treasuries;¬†if the demand for intermediate term, “downgraded-to-AA+” debt is weak, the 10-year’s yield will rise. Since home loans and car loans are often tied to the 10-year,¬†borrowing rates for consumers could also rise.
Why am I bringing all of this up? For one thing, the Fed signaled that it is not going to be purchasing more short or intermediate term treasuries a la quantitative easing. (Note: They probably would act if yields began to climb above a “comfort range.”) Another reason for discussing “rates” is the possibility that credit isn’t¬†as free-flowing around the world as it needs to be.
On the surface, there may not be a credit crisis. Businesses have cash to self-finance; most can borrow from investors at ridiculously low yields. Even consumers know that if they have a decent credit score, they can probably gain access to funds at a relatively low rate.
That said,¬†the other¬†major indicator for lending, the London Interbank Offered Rate (LIBOR), has been trending higher in recent weeks. It may only be a minuscule 0.293%; nevertheless, that’s a 17% jump from where it was one month ago.
Granted,¬†media pundits may be accurate when they suggest that¬†a¬†second system-wide credit freeze isn’t even in the cards at 0.293%.¬†What they’re missing, however, is the potential for panic. In 2010, when LIBOR rose above the same price point in April and crested near 0.55%, the S&P 500 dropped -18%. The recovery of the losses didn’t occur until LIBOR fell back¬†below the 200-day trendline. (See the 200-day moving average for LIBOR in the chart below.)
So here we are again. Whereas 0.293% for LIBOR isn’t a problem in and of itself, the rate is 17% higher than it was a month earlier and it has climbed back above a 200-day trendline.
Dismissing the trend for LIBOR could be troublesome for one’s financial health, especially if he/she is heavily allocated to stock ETFs. I continue to recommend a lighter-than-normal allocation to equities.
This doesn’t mean I haven’t been buying the proverbial dips. On the contrary… I have! Yet I’ve focused on the themes that have held up better than the broader benchmarks.
One of my largest personal holdings for more than 2 years, iShares MSCI Malaysia (EWM),¬†thrives on the China/Japan neighbor theme. In fixed income, I’ve accumulated more WisdomTree Local Asian Debt (ALD); Asian countries are well-equipped to pay their bills, the yield on the basket is venerable and¬†Asian currencies will likely rise against the greenback over the next¬†5-7 years.
There are a few other conceptual plays. India’s determination to beat inflation through central bank tightening has provided strong year-over-year gains in my WisdomTree India Rupee (ICN)¬†position.¬†Market Vectors Indonesia (IDX) presents another possibility, as¬†it has recovered its 200-day¬†trendline quicker than nearly any other¬†country ETF¬†in existence.
Disclosure Statement: ETF Expert¬†is a web log (‚ÄĚblog‚ÄĚ) that makes the world of ETFs easier to understand. Gary Gordon, MS, CFP is the president of Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC. Gary Gordon, Pacific Park Financial, Inc, and/or its clients may hold positions in the ETFs, mutual funds, and/or any investment asset mentioned above. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities. At times, issuers of exchange-traded products compensate Pacific Park Financial, Inc. or its subsidiaries for advertising at the ETF Expert web site. ETF Expert content is created independently of any advertising relationships. You may review additional ETF Expert disclosure details here.