3 Reasons Rates Will Stay Below 2%

06/25/2012 11:30 am EST

Focus: MARKETS

Louis Navellier

Editor, Blue Chip Growth and Emerging Growth

Emerging Growth’s Louis Navellier discusses the three reasons why the Federal Reserve will have to keep rates below 2% for the foreseeable future.

Will the Fed keep rates low forever? We’re here with Louis Navellier, who’s going to tell us whether the Fed is ever going to raise rates again.

Yes, they will raise rates, but they’re in a box, and they can never go above 2%. So maybe five years from now, the federal funds rate will be 0.75%. Maybe seven years from now, it’ll be 1.25%.

This is America, not Japan, right?

Well, unfortunately we are Japan because Peter Orszag is President Obama’s former White House Budget Director. He’s out on the speaking circuit, and he’s warning as soon as rates get to 2%, everything blows up.

He’s forecasting the interest on the deficit several years from now—you know, the trillion-dollar-a-year deficits. When the average rate gets to 2% on Treasury debt, the interest debt repayments will be over $900 billion a year, and that’s the point of no return.

No country can avoid a problem when rates go up, and right now we finance the bulk of that deficit under 0.6% mostly in notes and bills, and very little in bonds. So if the Fed raises rates, they blow up the government.

The other reason they can’t raise rates is they will blow up the banking system. The banking system has a lot of workout loans where people couldn’t make their interest. They defaulted. The bank countered with the Cash For Keys deal. Here’s a few grand to leave your house or a 2% mortgage. You’d be surprised how many people have taken those 2% mortgage deals.

So you have all these workout loans in the system. They’re still being executed to this day. So if the Fed raises rates, it kind of blows up their Tier 3 Capital and those 2% workout loans.

The final reason they can’t raise rates is of the ten voting members of the fed, nine are doves and one’s a hawk, and their new mandate is unemployment, which is a higher priority right now than inflation. So what’s happened is they can’t raise rates until unemployment’s low, and so they’re in a box to do that.

This Fed is doing this Operation Twist to further flatten the yield curve. I used to work for the Fed, 30-plus years ago. I find what they’re doing is scandalous. The Fed’s really in a box. One part of me feels sorry for them; another part is like, "What in the hell are you guys doing?"

You know, they had under a trillion-dollar balance sheet in 2008. Then they rescued mortgage banks. They rescued the commercial paper market. The balance sheet got bigger. Then they needed more money. They had to do two rounds of quantitative easing. Now they’ve got a $3 trillion balance sheet.

The Fed is out there manipulating a lot of the Treasury auctions, so don’t go near Treasuries. Those are artificially low rates that the Fed is manipulating. They just can’t raise rates until we get a handle on our fiscal problems, and it’s not likely, so I think we’re going to be very low rates just like Japan.

Does it help or hurt with Europe falling apart? You have a flight to safety that perhaps some of that you’re going to get into the US dollar as well as China and other places.

Sure. The dollar has got its mojo back every time there’s a euro crisis. The euro’s under $1.30, and a lot of people think it’s going to go to parity with the dollar. The dollar has liquidity. The yen has liquidity. So you see these zero-interest-rate currencies rally as Europe kind of twists in the wind.

The other thing that’s going on that I should mention is Corporate America is out-borrowing the bond market at a fast and furious pace. Corporate America can borrow under 3%. Procter & Gamble (PG) just sold five-year notes at 1.25% and ten-year bonds at 2.3%.

Again, all the big companies can borrow under 3%. They were borrowing $20 billion a week. Now they’re pushing up to $60 billion a week. That means they’ve gone from a $1 trillion a year annual pace to almost $3 trillion.

A lot of them are borrowing it under 3% and buying their stock back…and the strength of the market, a lot of it is the buybacks. I can start graphing stocks in the last two years that are $200, $300, $400, $500, $600, $700 companies, and they’re charts are eerily smooth because these companies are just buying their stock back, which by the way makes earnings per share go up.

You had a lot of compression in price-to-earnings ratios last year because earnings were good and the market didn’t go up. Then P/Es just broke down in a new record low here. So what’s happening is between the low P/Es and the low rates and the Fed saying they’re going to keep rates low through 2013, it’s just a big flashing light to hurry up, borrow in the bond market, and buy your stock back, and that’s where a lot of your strength is coming from.

It helps that big flagship companies like Apple (AAPL) are joining the buyback party. Of course, they have a dividend yield that helps stabilize their stock. So my ideal stock has both the dividends and the buybacks.

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