Blogs & Comment

An unfinished crisis?

Heres some food for thought from Nandu Narayanan, one of the few hedge-fund managers to have lived up to his industrys promise to deliver positive returns regardless of market conditions (see table below for his investment performance). He argues that U.S. policymakers are going to need to administer much more quantitative easing and fiscal stimulus and as the realization dawns on financial markets, they wont like it.
I have said before that eventually things will get back to normal. Maybe its just incurable optimism on my part. But that doesnt rule out some volatility in the meantime. Narayanan writes:
Unfortunately for the Fed, were a recovery to materialize, the bond markets should suffer forcing the Fed to more quantitative easing. And were the economy to weaken, the fiscal deficits are going to increase further demanding even more quantitative easing. This makes the Fed largely powerless in the current situation its policies of dollar printing are here to stay in most reasonable scenarios for the economy. When the markets realize this, we should enter the next leg of this unfinished crisis.
What he means by the bond markets would suffer, is that if the economic recovery shows more signs of taking root, government bond yields will ratchet up. Since the rising yields will endanger the recovery as I discussed in a previous post the Fed will have to print more money to buy up Treasuries and hammer their yields back down.
Where Narayanan extends the analysis for me is that even if the economy doesnt pull out of recession, fiscal deficits will get even wider and require the Fed to buy up more government bonds than presently expected. This, of course, will require more money to be printed.
So, regardless of the economys direction, the Fed may be driven into more quantitative easing and this could be unsettling to the market when it catches on. As he outlines in his latest commentary , Narayanan seems to think the most likely scenario is that the economic recovery will falter: A slowdown in the U.S. will trigger even more government expenditure and more quantitative easing by the Fed actions that will increase the risks of a dollar and/or a bond market crisis.
Narayanans investment performance: