Fed Balance Sheet: What Does Its Size Mean for Investors?

federal reserve

With the U.S. Federal Reserve posting an all-time high balance sheet of $3.189 trillion on March 20, analysts were prepared for the slight dip this week, to $3.185 trillion. The change reflects a drop in the Fed’s holding of mortgage-backed securities, though there is no plans for a shift in the central bank’s economic policies. For most investors, the Fed’s 10+ weeks with a balance sheet above $3 trillion matters most when considering inflation. Will the balance sheet , coupled with slow GDP growth, spell inflation to come?

In fact, the imposing balance sheet amassed by the Fed is likely to guarantee stability in the banking industry, where stocks are improving but are nowhere near their pre-recession highs. As news swirls around Bank of America (NYSE: BAC) and its raise for CEO Brian Moynihan, investors can consider the stability ahead for the major banks, courtesy of the Fed’s protections. Inflation — a major cause of concern for investors — remains minimal for three reasons:

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  1. There is no commodity price inflation. An important element of the overall inflation faced by consumers is commodity prices. When seeing prices go up in this department, investors see a drop in the valuation of currency. On this front, commodities are stable or down slightly for 2013, as are food costs. With growth in the stock market, this trend is encouraging.
  2. Wage pressure is low. When the job market is buzzing and unemployment is down, employers have to raise salaries to get the top candidates for available jobs. When unemployment is still relatively high (as it is now), employers find themselves paying less for great employees. While it’s not great for the workforce, it keeps inflation low.
  3. Factories are running at four-fifths capacity, making price gouging impossible. Another key indicator of inflationary tendencies is the percentage of factories that are up and running. Right now, it stands below 80 percent, which means discounts remain a part of business and price increases are nowhere in sight.
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Until these three elements remain consistent, investors shouldn’t worry about the impact of inflation on the economy. Consider the areas the Fed is making sure to buoy, namely the banking industry. Before running away from investments in BofA, Citigroup (NYSE:C) or Wells Fargo (NYSE:WFC), remember the power of the Fed is behind them.

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