Investment Implications for Government Policy and Intervention

Abstract

ecision making under uncertainty is one of the greatest challenges faced by anyone in authority, and I believe that policymakers around the globe have done a remarkable job of dealing with an array of unknowns. Furthermore, what the U.S. Treasury and U.S. Fed are doing is critical to fixed-income markets, equity markets, and the economy in general. One of my main goals, therefore, is to discuss how the decisions already made by policymakers and the decisions they are likely to confront have affected and will affect the markets. To begin, I will offer a market update and my own particular perspective of the recent crisis in the markets. I will follow that with a historical perspective of the U.S. banking system. After that, I will discuss policymakers’ interventions, some of the economic headwinds that will probably continue to confront both the economy and the markets, and the ways in which policymakers are likely to react. I will then describe current and expected asset allocation trends and identify some of the opportunities that the markets seem to be presenting. I will conclude by identifying some of the lessons that we should all have learned from this challenging period we have just experienced. Overview of the Financial Crisis The crisis of the past two years can be divided into four distinct periods, as Figure 1 illustrates with a graph of investment-grade option-adjusted spreads. A graph of high-yield or commercial mortgage-backed securities (CMBS) yield spreads would look similar.