The Fed Is Growing the US Money Supply, So What?

As speculation grows surrounding the upcoming September 13th 2012 Fed meeting and whether or not there will be another round of quantitative easing to boost the economy, it is interesting to stop for a moment and examine how the M1 money supply has evolved over the past 30 years.

This chart provided by the St. Louis Fed gives a good glimpse at how the M1 money supply has evolved in the recent decades. It simply shows the money stock at the end of each month since August 20th 1982 in billions of dollars.

As they say, a picture is worth a thousand words and I thought it would be interesting to have a visual representation of how far we have come since the 2007 financial crisis. The last two rounds of quantitative easing have almost doubled the M1 money supply in as little as 4 years. One only has to wonder what will be the long term effect of going from 1.4 trillion to 2.4 trillion USD on the dollar. Even if it is currently the world reserve currency, it is obvious the US Dollar is bound loose value in the coming years. How is your portfolio positioned assuming such a scenario? Soon enough the world will notice that they are getting less and less value for their US Dallar holdings. Food for tought....

The Comeback of the US Dollar?

The following graph of the US Dollar Index tells a story that can be summed up in the following terms. There seems to be change in sentiment regarding the way people perceive their positions relative to the US Dollar. This is all translating into a major change in the way Forex traders are positioning themselves regarding the future of the US Dollar.

Recent economic news on each side of the Atlantic have heavily influenced the strength of the American currency. In the US, it is clear that talks by the Federal Reserve to end of quantitative easing, QE2 on time, and that there probably is no QE3 in sight. Economic data on employment is improving and recent speeches by Fed's Chairman Ben Bernanke lead to think that the US economy is getting stronger.

Expect for the specific cases of Germany and France, economic data for Europe is coming in short of expectations and the continued Greek sovereign crisis is weighting on the Euro. As long as the market has no certainty as to what will happen with Greece's debt, forex investors will keep expecting the worse as time passes by and will fly back to the US Dollar.

Looking at the chart at the beginning of this post, there a long term reversal is in place for a comeback of the US Dollar that should last many weeks. Shorting the Euro and getting long on the US Dollar will prove to be a winning trade as long as a bond crisis still looms over Greece.

Currency Risk

This is a factor that many investors fail to account for but that has a huge impact of their investing results. Most people may not be aware of it, and thankfully, I fully grasped the depth of those implications the easy way.

Back in September, as I was adding companies to my portfolio, the Canadian dollar was at par with the US dollar. Which made buying American companies at the then current prices a bargain, and I have luckily been proved to be right! From September 17th, when I made my first trades acquisitions of American stocks, to now, the US dollar went from 1.07 Canadian dollars to 1.29 Canadian dollars. That is a 20% jump, and it was mostly due to the financial meltdown in the last quarter of 2008.

Being an investor living in Canada, and that applies to any investor; it is in my advantage to invest mostly in companies that trade in the local currency because I would be in a very uncomfortable position if currency rates had moved the other way. Since currency exchange rates are influenced by macroeconomic factors, I think it is a thing that value investors tend to minimize by not investing much in foreign countries.

That is in fact the main reason I do want to avoid those particular types of fluctuations. I am aware of my limitations in reading macroeconomic trends, so for someone like me, trading with currencies is a double edged blade. That is a factor that can work for me or against me. As a value investor I guess it is probably better for me to stick with local currencies.