11. What is the FED
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The FED is short for the U.S. Federal Reserve. The mission of the FED is to care for the U.S. economy. They do this through four different objectives. First they try to ensure maximum employment through price stabilization. Second, they supervise and regulate banks. Third, they maintain stability of the financial system by adjusting interest rates. Fourth, they service the debt obligations for the federal government.
In this lesson, we really focused on the third objective: Maintaining stability of the financial system. In order for the FED to stabilize the economy, they have to constantly adjust the interest rate at which banks can lend money to citizens and businesses. By doing this, the FED is ultimately controlling the spending habits of the U.S. economy. When the FED controls interest rates, it provides predictable investment opportunities for value based investors because they are able to capitalize on the changing market prices of stocks and bonds.
We learned that when interest rates are high, we’ll want to focus our efforts on finding quality bonds. By taking this strategy, a value investor can collect high paying coupons and also prepare themselves for a profitable venture when interest rates decrease. Since the value of a bond increases when interest rates decrease, the market value will undoubtedly increase on a long term bond when market crashes force the FED to drop interest rates.
We also learned that when interest rates are low, it’s probably a good time to find undervalued stocks. The most lucrative time to buy stocks is during a recession because scared investors are selling their shares at a discount price. Smart investors need to ensure that they always avoid buying companies with marginal levels of debt. In course two, this site conducts a thorough review of all the information you need to properly assess the intrinsic value of stocks and bonds. The key point to take away is that when interest rates are low, you want to ensure that you’re buying stocks.
In the end, we learned that the FED actually provides great clues as to the position of Mr. Market. We know that when interest rates are high, the stock market is experiencing a greed cycle. Likewise, when interest rates are low, the stock market is experiencing a fear cycle. This information proves very valuable as value investors capitalize on market movements and opportunities.
