Confused about quantitative easing, deflation? Read this

FRANKFURT - The European Central Bank unveiled Thursday an eagerly-awaited programme of sovereign bond purchases, known as quantitative easing or QE, to ward off deflation in the eurozone.

After the ECB held its key interest rates at their current all-time lows at its first policy meeting of 2015, central bank chief Mario Draghi said a programme would be launched to buy 60 billion euros of private and public bonds per month starting in March.

QE is already used by other central banks around the world to stimulate their economies, but is contested in Europe because it is seen as a way of printing money to pay the way for governments out of debt, which the ECB is expressly forbidden from doing under its statutes.

And while consumer prices in the single currency area actually fell for the first time in five years in December, analysts and ECB officials insist that there is no sign of deflation in the region just yet.

What is deflation?

Deflation is defined as an extended period of falling prices where consumers begin to put off purchases in expectation they will fall further, sparking a damaging cycle of falling production, employment and prices.

Consumer prices in the eurozone fell by 0.2 percent year-on-year in December, the first drop in more than five years, driven down mainly by tumbling oil prices.

But a one-off like that is not synonymous with deflation, economists say. And ECB officials, too, have repeatedly stated that they see no sign of the eurozone sliding into deflation for now.

Normally, central banks keep inflation (and deflation) in check by adjusting their key interest rates.

If the economy is in downturn and companies are nervous about the future and scaling back on investment, a central bank can reduce the overnight rate that it charges banks, reducing their funding costs and encouraging them to make more loans.

In the wake of the financial crisis, the ECB, like other central banks around the world, slashed their overnight interest-rates to close to zero. But that still failed to spark a sustained recovery, so they resorted to more unconventional tools to encourage banks to pump money into the economy, including QE.

What is QE?

Under QE, a central bank in effect creates money by buying securities such as government bonds from banks with electronic cash that did not exist before.

The aim is to stimulate the economy by encouraging banks to issue more loans: the banks take the new money and then buy assets to replace the ones they have sold to the central bank. That raises stock prices and lowers interest rates, which in turn boosts investment.

In theory, the central bank can also purchase corporate debt, but the market for sovereign debt is much bigger and would therefore have a much bigger impact.

In order to get round the ban on government financing, the ECB buys bonds that have already been issued via the so-called secondary market.

In the past, the ECB has already bought up the sovereign bonds of a number of the countries hit hardest by the crisis, such as Greece, Portugal and Ireland. But these purchases were not considered to be QE because they were targeted specifically at the countries concerned and not on a wide scale.

Does it work?

The US Federal Reserve launched three QE programmes, buying up around $4.0 trillion of debt in total. The Bank of England also used QE several times, first in 2009 and then in 2011 and 2012.

Berenberg Bank economist Rob Wood estimated that Britain and the US averaged 3.0-percent nominal growth since embarking on QE, while the eurozone had only managed to clock up growth of 1.1 percent.

The Bank of Japan was the first to use QE as tool, back in the early 2000s, but the Japanese economy is still entrenched in deflation.

Nevertheless, QE for the eurozone is different because the ECB will buy the debt not of just one country, as was the case in the US or Japan, but of 19 different countries in very different states of economic health.

That raises a number of issues, since the sovereign debt of one country may be riskier than another.

Critics had expressed concern that European taxpayers would have to foot the bill if any one country defaulted on its debt.

But the ECB plan has been designed so that only 20 percent of those risks would be shared, with the other 80 percent to be shouldered by the national central banks of the countries concerned.

source: www.abs-cbnnews.com

'Market volatility seen this week on US Fed decision'

MANILA – The outcome of the US Federal Reserve's meeting this week decision will spark market volatility, according to a Union Bank analyst.

Union Bank chief investment officer Rob Ramos said the Philippine Stock Exchange index will likely range from 6,900 to 7,300 level.

Ramos noted, however, that the US Fed will not hike rates soon and the market will likely look out for signs when on when the US Fed will stop its program of bond buying.

“I don’t think that the Fed is going to do anything drastic right now. I think everybody in the market thinks things will be status quo. They won’t be ending anything soon. That gives the Philippine market flexibility to keep our interest rates stabilized,” he told ANC on Monday.

He added that he is bullish on the earnings from the consumer sector while lower earnings from the banking sector is expected in the first nine months as they rely more on consumer loans, and they have lower trading gains. -- ANC

source: www.abs-cbnnews.com

What to do with your money when interest rates rise

MANILA, Philippines - If there is one thing that investors and market analysts around the world watch closely, it is the movement of interest rates.

Last year, following an improvement in the US economy, the US Federal Reserve announced that it would cut its bond buying program. This signaled that interest rates would begin to rise. That announcement set off a series of events including foreign investors pulling out their funds from the Philippines and other emerging markets, the local stock market dropping, and the exchange rate rising to the P45 level against the US dollar. For the Philippines, where interest rates have been at record lows, this created fears that rising interest rates would affect investment and consumer spending.

Most investment houses forecast that in 2014, interest rates would be kept low by authorities in order to aid reconstruction efforts, especially after the damage caused by Typhoon Yolanda, and in order to keep consumer spending going. Just the same, market analysts also say that a spike in interest rates is imminent within the year.

With the prospect of an interest rate hike, one of the questions most frequently asked by people is what to do with their money.

The answer to this is it depends on your current portfolio.

Rising interest rates have their upsides and downsides. On the down side, they could mean higher interest rates on your loans. If you have debt, you may find yourself having to pay more interest rates. On the upside, higher interest rates can mean better yields on some investment instruments you may be holding. What you would do would therefore depend on what your current portfolio looks like, as well as your investment goal.

If you are holding debt with floating interest rates, and you happen to have cash, you may consider paying it off, for instance.

If you are holding equities, you may consider shifting to higher-interest yielding instruments. If you are holding a savings account or cash deposits, then you can just stay put.

An uptick in interest rates is often seen as a signal to move to safer investment havens, such as fixed income instruments.

Fixed income instruments, as the name suggests, provide preset periodic returns. The rates are known by the investor from the beginning and the principal is returned at maturity. Examples of fixed income instruments are government securities, bonds, and certificates of deposit. All are debt instruments, wherein the issuer pays back the investor with the fixed interest rate on a set date. The date that the loan is to be repaid is called the maturity date. Take a 10-year treasury bill with a fixed rate of 3% per annum. An investment of P1,000 would mean a P30 payment until maturity, which is when the P1,000 will be returned to the investor.

When interest rates rise, a simple rule to follow is to head for safety.

The safest haven, of course, is cash, followed by fixed income instruments that have short maturities. This is because the relationship between interest rates and the value of investment instruments is inversely proportional. In other words, when interest rates rise, the value of the instrument falls.

It is important to note that all instruments carry a measure of risk. One measure of risk is the amount of time that you will be holding on to the instrument. The longer an instrument reaches maturity, the higher the risk it carries, for obvious reasons: it is very hard to imagine the risks that may suddenly arise in the future. For instance, there might be a catastrophe that may affect the ability of the issuer to pay off his debt. In contrast, risks in the immediate horizon are easier to predict. Because of this measure of unpredictability, prices of instruments with longer tenors are higher. The 25-year treasury bill, for example, has a higher price than the 10-year T-bill.

As interest rates rise, most prefer to go for instruments with the shortest possible duration. Instruments with durations below one year are generally considered short-term. This allows an investor to simply roll over his or her money at the end of the term, or pull out your money without paying penalties if there is a sudden change in the rates that may warrant a shift to another instrument.

Short-term instruments are traded in the money market. Money markets offer investors two important elements: safety of capital and liquidity. Although they do not offer much in terms of yield, you are assured of getting back your capital within a short period.

Since most fixed term instruments (certificates of deposit, commercial papers, and treasury bills) are purchased and traded by financial institutions in the secondary markets, the best way for retail investors to access these is through unitary investment trust funds (UITFs) or mutual funds. These provide an alternative way to invest in these instruments and may be availed of at an affordable initial investment, usually ranging from P5,000 to P10,000. UITFs are available from financial institutions such as banks and insurance firms. UITFs also allow you to diversify your portfolio and lessen your risks.

Before you make any shift in your holdings, remember that diversification is the key to balancing your risks and wealth objectives. In determining which UITF to avail of, keep your investment goal in mind. Do you want capital safety or growth? Your choice of UITF should be based on your goal, as well as your risk appetite and financial standing. If you are not sure what to do, it is always a good habit to seek the advice of a trusted professional to guide you in managing your investment portfolio.

source: www.abs-cbnnews.com

PH bond market grows 12 pct in Q2 - ADB

MANILA, Philippines - The country's local currency bond market grew by 12.1% in the second quarter on the back of higher borrowings by the national government, according to an Asian Development Bank report.

In a report, ADB said the local currency bond market hit P4.086 trillion in the second quarter from P3.646 trillion a year ago.

Most of the bonds outstanding were government securities, totaling P3.545 trillion. Corporate bonds totaled P541 billion.

In the second quarter, outstanding fixed-income instruments issued by the government and state-owned firms rose 12.5%, as Treasury bonds jumped 15.7%.

In the April to June period, the government sold P90.9 billion of short-term debt papers, while domestic investors bought P30 billion of Treasury bonds.

On the other hand, fixed income bonds issued by government owned-and -controlled corporations fell 8.5% in the second quarter to P113.5 billion.

The local corporate bond market jumped 9.3% to P541 billion in the second quarter from P495 billion in the same period last year.

During the period, Energy Development Corp. was the sole issuer of corporate notes, raising P14 billion worth of 7- and 10-year bonds.

The ADB noted only 51 companies were actively tapping the domestic capital market, with 31 issuers accounting for 92.2% of the total outstanding corporate bonds at end-June.

Most were publicly listed with the Philippine Stock Exchange, and only 5 were private companies.

As of end-June, San Miguel Brewery was the largest firm issuer in the country with P45.2 billion of outstanding debt. Ayala Corp. followed with P40 billion and Banco de Oro Unibank with P38 billion.

Other top corporate issuers were SM Investments (P36.1 billion), Ayala Land (P31.2 billion), Energy Development (P26 billion), Philippine National Bank (P21.9 billion), Manila Electric (P19.4 billion) and Philippine Long Distance Telephone (P17.3 billion).

source: www.abs-cbnnews.com

Fed likely to reduce bond buying, pass policy milestone

WASHINGTON - The U.S. Federal Reserve is expected to begin its long retreat from ultra-easy monetary policy on Wednesday by announcing a small reduction in its bond buying, while stressing that interest rates will remain near zero for a long time to come.

Most economists expect the Fed to scale back its monthly purchases by a modest $10 billion, taking them to $75 billion and signaling the beginning of the end to an unprecedented episode of monetary expansion that has been felt worldwide.

The baby step would begin to provide a bookend of sorts to the central bank's response to the global financial crisis that reached fever pitch five years ago this week with the collapse of investment bank Lehman Brothers.

"It is an important milestone ... juxtaposed against five years ago, when the Fed began the huge expansion of its balance sheet," said Carl Tannenbaum, chief economist at Northern Trust in Chicago. "This is going to be the first step, potentially, in a very, very long walk."

The Fed will announce its decision in a statement following a two-day meeting at 2 p.m. (1800 GMT), and Fed Chairman Ben Bernanke will hold a news conference a half hour later. It is also set to release fresh quarterly economic and interest rate projections.

In slashing overnight rates to zero in late 2008, the Fed launched an extraordinarily bold campaign to shelter the U.S. economy. The effort included three rounds of bond purchases that more than tripled its balance sheet to around $3.6 trillion.

The actions, unthinkable to many within the Fed prior to the crisis, sparked intense criticism from those who feared the measures would create an asset bubble or fuel inflation.

But the central bank's show of force was credited with saving the U.S. and world economies from a much worse fate.

With the U.S. economy now on a somewhat steady, if tepid, recovery path and unemployment falling, policymakers have said the time was drawing near to begin ratcheting back their bond buying with an eye toward ending the program around mid-2014.

While U.S. government bond yields and mortgage rates have shot higher in anticipation of less Fed support, the central bank will still be expanding its balance sheet for many more months as it tries to wean the economy and financial markets from its ever-expanding stimulus.

YELLEN AND FORWARD GUIDANCE

Fed Chairman Ben Bernanke, in what is likely his penultimate news conference before stepping down in January, is expected to reinforce the central bank's commitment to keep overnight rates near zero for a long time to come as a way to temper any jitters the bond market may feel.

The forward guidance on rates is aimed at holding down longer-term borrowing costs, which encompass investors' views on the path of short-term rates.

That task may have gotten easier after former Treasury Secretary Lawrence Summers withdrew from the race to replace Bernanke when his term ends on Jan. 31, restoring current Fed Vice Chair Janet Yellen to the front-runner position.

Yellen, who would become the first woman ever to hold the job if nominated by President Barack Obama and confirmed by the U.S. Senate, could be expected to maintain the policy path set by the Bernanke-led Fed. Investors and economists were less certain on where Summers might lead the central bank.

"I think that probably does add to the credibility of the forward guidance in terms of the greater expectation of continuity in the basic philosophy and direction of policy," said David Stockton, a former senior Fed economist.

"If there had been as much uncertainty about the transition as there was a week ago, that credibility may have been less secure," said Stockton, who is now a senior fellow at the Peterson Institute for International Economics in Washington.

The Fed has said it will not begin raising rates at least until the unemployment rate hits 6.5 percent, provided inflation does not threaten to pierce 2.5 percent. The jobless rate stood at 7.3 percent in August.

But 10-year bond yields have risen more than a percentage point since Bernanke initially discussed scaling back the Fed's bond purchases, a signal that investors had brought forward their anticipated lift-off date for overnight rates.

Some analysts wonder if the Fed might try to hammer home the message that rates would stay lower for longer by reducing the unemployment threshold to 6.0 percent.

But it could prove hard for Bernanke to muster sufficient support from other members of the central bank's policy-setting committee for such a move.

"They will be hesitant to put in any more explicit forward guidance," said Dean Maki, chief U.S. economist at Barclays Capital in New York. "They really cannot credibly say a lot about 1-1/2 years from now."


source: www.abs-cbnnews.com