Equities don't care about QE2 - it's already priced in

While stocks moved briefly higher after US QE2 was announced overnight, much of what Fed delivered was priced in - even though the $600 B amound was slightly above expectations.

A note of concern should, however, be raised. When the Fed did the first round of QE it did have an impact; spreads tightened, compared to widening following the Lehman collapse, and markets began to function relative smoothly again even on lower volumes compared to the freeze that had hit markets. This time around it will be more difficult to achieve success because the market is already working relatively well. What is needed is jobs and inflation, which have an impact on the real economy. Given  Congress will now be in gridlock, fiscal policies will not be as expansionary as before.

As we have argued elsewhere, using the usual channels for this round of QE there is a risk that funds are not channeled into the real economy, but rather it will partly end up as excess reserves on banks' balance sheets, and partly into financial markets asset prices. It remains yet to be seen how higher stock prices can be converted into jobs; as long as corporates are reluctant to invest and as long as banks are reluctant to lend there will be no job creation.

So, short-term we could see equity markets moving higher, but when starting to measure the impact of this round of QE in terms of real economy progress, equities will start to sell-off on back of lack of any effect.

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