Ben Bernanke's Big Bet

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"Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost ... We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation. Of course, the U.S. government is not going to print money and distribute it willy nilly."
-- Ben Bernanke 2002, Deflation speech

The Federal Open Market Committee met today to unveil its much-anticipated quantitative easing program, better known as QE2. Fed Chairman Ben Bernanke is making a big bet that pumping fresh cash into the financial markets (again) will unleash the almighty wealth effect and kill fears of deflation for good. Picture deflation-induced zombies approaching Bernanke's house as he paces inside, rifle on his shoulder, literally sweating bullets as he ponders how best to use his depleting ammo.

Time for some pump priming
In the second round of QE, the Federal Reserve will print brand-new money, then use it to buy Treasuries from approved banks like Goldman Sachs and Deutsche Bank. The newly printed bills then flow into the markets when the banks themselves or their clients, which include pension, hedge, and sovereign wealth funds, reallocate the capital. Other investors who fear inflation are apt to stop hoarding cash and Treasuries and move on to riskier assets.

I'll save my armchair economist act for another show. Instead, I want to discuss some investments that have become the topic of conversation with friends and family heading into QE2.

Emerging markets for growth?
New capital is likely to flow all over the globe in search for returns. According to Charles Schwab, investors' appetite for growth abroad has grown of late. International mutual funds had a big jump in capital inflows in September, while domestic stock funds gave back capital for the fifth consecutive month. If you can withstand some volatility and are willing to search for good deals, emerging markets make sense.

One bright spot I particularly like is China's love of basketball. Believe it or not, basketball may have surpassed soccer as the world's leading sport thanks to hundreds of millions of NBA fans in China. Nike (NYSE: NKE  ) , Adidas, and China's very own Li Ning have built brands locally and staked a firm claim: It's estimated there are some 300 million casual b-ballers in China. That's ridiculous. Another household name making inroads in China is status symbol Coach (NYSE: COH  ) with its fancy handbags and impressive management team.

All four of these stocks are fairly high on my watchlist; you can stop by my discussion board to chat about any stock mentioned in this piece. Onto the next asset class ...

Should I be buying commodities?
The whole act of flipping the switch on the "electronic" printing press essentially makes speculation in "limited" resources such as commodities gain fervor. If investors feel that cash is trash and inflation is imminent, a rush to commodities may continue. Since Bernanke alluded to QE2 on Aug. 30, copper and agriculture ETFs have rallied while natural gas remains an outcast -- selling below the average cost of production. The commodities that pique my interest -- oil and agriculture -- are tricky for small investors to truly get at, and ETFs offer a subpar alternative.

Gold and silver are still near all-time highs, and with a bit of "shock and awe" maybe they go even higher. These precious metals typically shine brightest when confidence in the dollar wanes. While I get the argument for precious metals, I pass every time. For investors determined to protect their purchasing power, you may want to check out a closed-end fund like Central Fund of Canada, which actually holds physical gold and silver.

Where's the low-hanging fruit?
If I were the lucky recipient of billions in deployable cash, I'd start with high-quality, cash-rich blue chips, which provide some safety, dividends, and upside over the long haul. I've rounded up several of my favorite blue chips that trade below fair value despite September's market rally. The companies' access to cash to buy back stock on the cheap is attractive in itself.



Forward P/E


Dividend Yield

Dividend Growth*

Wal-Mart (NYSE: WMT  ) 13 12 14 2.2% 14%
Microsoft (Nasdaq: MSFT  ) 12 11 10 2.4% 10%
UnitedHealth (NYSE: UNH  ) 9 10 8 1.4% 110%*

Source: Capital IQ a division of Standard & Poor's.  *Annualized growth rate over past 3 years.

What if it backfires?
If Bernanke is unable to unleash the wealth effect and the flow of cash in the real economy remains dismal, it's nice to have your friendly dividend stocks willing to pay you 3%-4% on your original investment. A nice healthy mix of share repurchases, dividend per share growth, and price appreciation is what we are looking for. Below are some dividend payers that are high on my watchlist.



Forward P/E


Dividend Yield

Intel 11 11 10 3.1%
Lorillard (NYSE: LO  ) 13 12 13 5.2%
Novartis (NYSE: NVS  ) 13 11 11 2.9%

Sources: Capital IQ, a division of Standard & Poor's, and Yahoo! Finance.

Come on, just say it
In a conspiracy theory that Jeremy Grantham would surely appreciate, what if QE2 is simply politically motivated? According to Grantham, the Fed has stimulated the economy -- typically via lower interest rates -- heading into virtually every third year of the presidential cycle in an effort to boost the incumbent's chance of reelection. Heading into President Obama's third year, here we are again -- but this time, interest rates can go no lower. Then again, given American voters' historical tendency to decide elections based mostly on the strength of the economy, perhaps we're all to blame.

You can catch my first buy and follow all my buys and sells in my real-money portfolio on my analyst page.

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Bryan White owns shares of no companies listed above. Intel, Microsoft, UnitedHealth Group, and Wal-Mart Stores are Motley Fool Inside Value selections. Coach, Nike, Charles Schwab, and UnitedHealth Group are Motley Fool Stock Advisor picks. ADIDAS AG and Novartis AG are Motley Fool Global Gains recommendations. Motley Fool Options has recommended buying calls on Intel. Motley Fool Options has recommended a diagonal call position on Microsoft. Motley Fool Options has recommended a diagonal call position on UnitedHealth Group. The Fool owns shares of ADIDAS AG, Coach, Intel, Microsoft, UnitedHealth Group, and Wal-Mart Stores.

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Read/Post Comments (22) | Recommend This Article (39)

Comments from our Foolish Readers

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  • Report this Comment On November 03, 2010, at 4:21 PM, TMFDiogenes wrote:

    The Fed's hand was forced -- they had to do something expansionary, whether it was QE or raising inflation expectations, or something else.

    They have a dual mandate to maintain price stability (traditionally defined as 2%) and full employment. With inflation well below 2% and 9.6% unemployment, something had to be done.

    The political element is that a gridlocked Congress was unable to pass enough fiscal stimulus to do the trick (OMG THE DEFICITS WILL ESTABLISH DEATH PANELS), so further monetary stimulus became necessary.

  • Report this Comment On November 03, 2010, at 4:34 PM, TMFCaccamise wrote:


    I'm wondering if it truly forced their hand or was just an additional reason to go ahead and ease.

    On another note I keep getting the phone calls - what should I do with my cash?

    So Ilan what's your take - is cash trash? Any investment ideas to pass along?

  • Report this Comment On November 03, 2010, at 5:42 PM, rd80 wrote:

    I wonder if Peter Schiff has at least part of this correct and QE2 is more about the Fed being worried about demand for Treasuries than about stimulating growth.

    If rates were to inch up, increased interest expenses from rolling the debt over would blow a serious hole in the deficit pretty quickly. The Fed may be worried about that just as much as it is about trying to spark some growth and inflation.

  • Report this Comment On November 03, 2010, at 7:00 PM, lewellen180 wrote:

    Call me naive, but it seems as though if one is going to deploy X billions of dollars with the intent of getting the economy going, why not distribute it directly to the citizenry rather than a relatively small collection of large banks?

    Yes, some of it will be used to pay down debt, and, therefore, won't really "stimulate" things. However, a large fraction will be spent on "stuff."

    That puts the money in directly at the bottom of the consumption chain, and a dollar thus spent will pass through more hands and therefore should have more impact than a large bank buying another share of another large company.

    In the former scenario, with cash going to the public, goods move off shelves, services are consumed, etc. as the money is spent. Even in the "pay down debt" scenario, or the "put it in the bank" scenario, it still winds up with more dollars going into the accounts of large banks.

    In the latter scenario, buying treasuries from banks, all that *has* to happen is an electronic entry somewhere. Everything else that *should* happen beyond that, is optional.

    So, while I don't like that this is going to happen at all, I do think that if you're going to do it, do it in a way that actually has a decent chance of providing tangible, direct, immediately visible benefits and effects to the populace.

  • Report this Comment On November 03, 2010, at 7:53 PM, TMFBane wrote:

    Hey Bryan,

    Is your first buy recommendation likely to be one of the stocks mentioned in the article?

  • Report this Comment On November 03, 2010, at 8:12 PM, TMFCaccamise wrote:

    I was just trying to explain some of the effects of QE2 to my mom.

    I told her imagine yourself in the kitchen. One one side of the kitchen you have 5 fresh canolis and on the other side a huge pot of sauce. At this point the 5 canolis are pretty important because you have plenty of sauce so you don't mind when I come over and grab a couple meatballs.

    When I leave the kitchen you notice there are canolis dropping from the ceiling a few at a time. By the time I come through the kitchen again there are 50 canolis and a pot of sauce. This time you shoo me away with your wooden spoon and tell me to grab a canoli. Now the canolis aren't nearly as valuable relative to the limited amount of meatballs swimming in sauce.

    It will be interesting to see at what rate the average American moves from cash and cash-like investments into the financial markets in order to protect against inflation. The individual investor has been missing MIA for a long time.

  • Report this Comment On November 03, 2010, at 8:34 PM, TMFCaccamise wrote:


    I'm actually looking at two companies that are not in the article for my first rec.

    Of the companies in the article I like them all - with some I'd always take a better price. Out of all of them I really like UNH despite its run-up. I don't think investors truly understand it. As the gov't piles on debt it solidifies UNH's purpose in the marketplace. A year ago I was drooling over its price:)

  • Report this Comment On November 03, 2010, at 9:40 PM, TMFDiogenes wrote:

    Awesome question:

    "Call me naive, but it seems as though if one is going to deploy X billions of dollars with the intent of getting the economy going, why not distribute it directly to the citizenry rather than a relatively small collection of large banks?"

    That's basically what fiscal stimulus -- like the stimulus bill -- is. But that's not politically feasible, because of teabagging, so it's up to the Fed, which can act independently of politics to stabilize the economy, to get the job done.

    But I'm not sure that the Federal Reserve has the authority to distribute money directly to citizens via helicopter. That would be interesting to find out, but I doubt it's allowed to. So what it can do is pump money into the financial system and hope that money gets distributed (trickles down) that way. But that depends on banks lending, so historically it'll take like 12 to 18 months to work its way through the system, if it works.


  • Report this Comment On November 04, 2010, at 12:17 AM, NOTvuffett wrote:

    Maybe if $600 billion doesn't work, we can try $6 trillion, lol.

    This Fed move has been anticipated for awhile. Since we now have confirmation and a magnitude why didn't the market respond positively? I don't think even the Fed has much expectation that this will work, but they are out of options.

  • Report this Comment On November 04, 2010, at 12:25 AM, topsecret10 wrote:

    In 2009 when testifying before Congress. He was specifically asked If he Intended to use "quantative easing" He replied that he DID NOT INTEND TO USE THIS TOOL AS A PART OF HIS MONETARY POLICY. The question Is "When this Is going to backfire,not If It will".... TS

  • Report this Comment On November 04, 2010, at 12:31 AM, topsecret10 wrote:

    The stock market(s) are artificially Inflated. We are heading for another crash that will not be pretty. Inflation Is already here In food and fuel prices. If you think food Is expensive now,wait until next year..... Bernanke Is doing this because CHINA Is not buying our debt any more. The only thing that he can do Is print money. This Is NOT going to end well.... TS

  • Report this Comment On November 04, 2010, at 12:41 AM, goalie37 wrote:

    Can they print me a million bucks? I mean, if they're doing it anyway. That would be really cool of them.

  • Report this Comment On November 04, 2010, at 1:54 AM, brizzlekizzle wrote:

    I need to issue bonds and sell them to the federal reserve, you guys would not believe the profit margins, the demand, or the size of the house I could build after just one deal.

  • Report this Comment On November 04, 2010, at 5:12 AM, natsbaseball wrote:

    Bryan - the NVS dividend is actually 3.3% based on yesterday's close and this year's (once a year payment) of about $1.96. The Swiss take 15% tax out, but US taxpayers get this credited back (usually dollar for dollar) - so the yield is higher than I keep seeing in articles. Otherwise a great and timely article. (300 million basketball players! - looks like an expansion opportunity for the NBA - maybe the "Bejing Panda Bears".)

  • Report this Comment On November 04, 2010, at 6:29 AM, TopAustrianFool wrote:

    "Other investors who fear inflation are apt to stop hoarding cash..."

    There is no such a thing as hoarding cash. The amount of people who put cash under their bed ir rug is negligible.

  • Report this Comment On November 04, 2010, at 8:09 AM, dfrizzle03 wrote:

    when will you increase interest rates Ben?!?!?!

    I'm waitiiiinngggggg...

  • Report this Comment On November 04, 2010, at 10:21 AM, onemember80 wrote:

    so when exactly do we start shorting the market?

  • Report this Comment On November 04, 2010, at 10:23 AM, onemember80 wrote:

    if you quickly sort through the crap talk I hear no economic growth and tons of money printed out of tin air and dumped into the market. Does that keep you confident?

  • Report this Comment On November 04, 2010, at 11:29 AM, prime99 wrote:

    Central bankers in Asia feel double crossed by US plans for quantitative easing. A few weeks after G20 members pledged not to devalue currencies in order to spur growth, the United States is doing just that. Even more worrisome are the fears of surging capital inflows into emerging markets causing bubbles to develop in several sectors. Here is glimpse of what a Real Estate bubble bursting in Beijing would look like.

    Chinese Real Estate Crash Scenario-

    A recession in China, would nix the global recovery

  • Report this Comment On November 04, 2010, at 11:37 AM, TMFCatB wrote:

    Love the zombies reference, Bryan! Am guessing you saw the premier of that AMC show too, and so have been thinking about zombies all week...

  • Report this Comment On November 04, 2010, at 12:11 PM, TMFCaccamise wrote:

    Ben Bernanke describes his wealth effect wager in the Washington Post this morning:

    "Lower corporate bond rates will encourage investment. And higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion."


  • Report this Comment On November 06, 2010, at 2:55 AM, goalie37 wrote:

    "In the second round of QE, the Federal Reserve will print brand-new money, then use it to buy Treasuries from approved banks like Goldman Sachs and Deutsche Bank."

    So so so happy to see that the very first beneficiary of this will be Goldman Sachs. We need much more tax payer money going into their pockets.

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