Why You Do Not Have to Fear the Fed’s Bond-Buying Taper

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Investors may be overthinking the outcome of when, not if, Ben Bernanke and the Federal Reserve are going to start winding down or tapering the $85 billion in monthly bond buying. Again, when rather than if. The recent rise in interest rates has spooked many investors and they have started selling stocks of just about anything that may be tied to dividend yields or tied to interest rate sensitivity. Bank of America’s Merrill Lynch says this is hogwash in the monthly RIC Report.

The fear of tapering bond purchases simply does not pose a threat to the stock market, according to Merrill Lynch. If the Fed is tapering its purchases, it is because things are getting good in the economy. The RIC Report claims that the key is that the economy needs to grow enough to support earnings and the ultimate impact on the stock market would probably be limited.

Even if the market loses some liquidity from the Fed, the logic is that economic growth would likely be strong enough to generate better earnings and therefore higher share prices.

The firm’s Ethan Harris believes that job growth would have to improve from its recent pace for the Fed to actually start tapering off bond buying. He also said that this might not happen for the rest of this year. Monthly job gains of about 200,000 are more consistent with respectable economic growth and the economy is just not there yet.

Merrill Lynch’s Savita Subramanian, is the firm’s equity and quantitative strategist and the call is for investors to start preparing for an eventual upturn in the economy. Undervalued growth is featured here, with highlights being income growth and cyclical growth.

The firm believes that the market is getting into bubble-like levels in the hunt for yield. Still, demographic trends and low rates suggest that yield and income should remain sought-after attributes with the opportunities for safe and growing yield in some cyclical stock sectors. GDP-geared stocks are labeled by the team as being relatively inexpensive at a slight discount to historical levels. Savita’s three overweight sectors are technology, industrials and energy. One key takeaway is that investors should buy inexpensive cyclicals and sell expensive yield plays.

This $85 billion in bond buying cannot continue forever. Just remember that it is not going to end all at once nor will it all end suddenly. The FOMC did not prop up the markets yesterday and today with the intent on killing the market tomorrow.

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