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Pros Say: Fed Move Will Create a Bond Bubble

CNBC.com
Wednesday, 17 Dec 2008 | 8:46 AM ET

The dollar dropped to an 11-week low and government bonds rose Wednesday after the Federal Reserve cut its base rate to a range of zero to 0.25 percent. The central bank said it would employ "all available tools" to battle a year-long recession.

The Fed's rate cut and plans to flood the market with liquidity were met with mixed sentiments by experts interviewed by CNBC.

Fed May Risk Forming a Bond Market Bubble

WALL STREET IN CRISIS - A CNBC SPECIAL REPORT
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There are some severe dangers in the Fed's new course of action, says Uwe Parpart, chief economist & strategist, Asia at Cantor Fitzgerald. He tells CNBC it could undermine the value of the dollar and create a bond market bubble.

Fed's Move is Beneficial for Financials

The Fed's move to buy asset-backed securities will bode well for the financial sector, say Donald Straszheim, managing principal at Straszheim Global Advisor and Bill Smith, president & senior portfolio manager at SAM Advisors.

Fed Creating Inflation Problem

“What they are doing is highly inflationary … for the short term it is appropriate, but for the long term they’ve got anther issue that they’ll have to deal with another day,” Jim Bianco, president at Bianco Research, told CNBC.

“How do they get out from under zero interest rates and all of this inflationary policy without it producing inflation on the back end?” he added.

Liquidity & Risk Appetite Seen Returning in '09

Following the Fed's unprecedented actions, Sean Fenton, portfolio manager at Tribeca believes that liquidity and risk appetite will start to return to the market next year.

All that Liquidity Does Not Lead to Inflation

All the liquidity that the Fed has pumped into the system is unlikely to lead into an inflationary spiral, says Ilian Mihov, professor of economics at INSEAD.

US Economy Could Shrink Up to 4% in Q4

The U.S. economy probably contracted as much as 4% in the current quarter, says Arjuna Mahendran, MD & head of investment strategy, Asia at HSBC Private Bank. And it could contract at a similar pace in the first-quarter of 2009, he predicts.

Fed Has Enough Ammunition

Ilian Mihov, professor of economics at INSEAD believes that the tools left in the Fed's quiver are available and very powerful in eliminating deflationary pressures in the U.S.

Fed Has Challenge on its Hands

Once the deflation risk eases in the US, the Federal Reserve will have to sop up all of the reserves that it's added to the financial system, Hugh Johnson, chairman & CIO of Johnson Illington Advisors said.

"There has been so much in the way of reserves added to the financial system, that's not going to be an easy operation," Johnson told CNBC.

He adds that there is little possibility of the US central bank becoming singly focused on inflation in the future, yet admits that it will pose a big problem for the US economy once the deflation situation turns.

Johnson is "underweight" on Treasurys and "overweight" on corporate bonds.

"You have to be really, really careful about the credit quality if you're buying US fixed income securities," Johnson warns.

Should Central Banks Bring Rates to 0%?

CNBC.com

Now is an appropriate time to have very low interest rates globally, says Robert Heller, former governor of the U.S. Federal Reserve board, agreeing with Donald Straszheim, managing principal at Straszheim Global Advisor. But Arjuna Mahendran, MD & head of investment strategy, Asia at HSBC Private Bank disagrees.

Asia Seen Making Aggressive Rate Cuts

Huang Yiping, chief Asia economist at Citi is expecting aggressive rate cuts from a number of Asian central banks, following the Fed's move on Tuesday.

China's Stimulus Pose 2009 Growth Risks

Uncertainty over the effectiveness of China's stimulus pose risks to the nation's growth next year, say Chi Lo, director of investment research at Ping An of China Asset Management.

US to Lead Recovery

The US economy will be the first economy to pull out of recession, at the end of next year, Marco Annunziata from UniCredit Markets & Investment Banking told CNBC.

UK Rates Heading Below 1%

The Bank of England will follow the Fed by cutting interest rates to below 1 percent, in the first quarter of 2009, Marco Annunziata from UniCredit Markets & Investment Banking told CNBC.

More for the Investor:

Contact Europe: Economy

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