At the end of the year, the nation will arrive at a fiscal cliff: 1) the expiration of the Bush tax cuts, (for everyone if nothing is done) worth hundreds of billions of dollars per year; 2) the expiration of the 2% payroll tax holiday and emergency unemployment compensation; and 3) the automatic budget cuts written into the Budget Control Act last year as penance for the SuperCommittee’s failure to reach an agreement last fall.

[Actually, the SuperCommittee did make a set of admirable recommendations for cutting federal spending; Obama simply ignored them.]

All told, under current law, through a combination of tax hikes and spending cuts, fiscal policy is set to tighten by over $500 billion in 2013 alone. This is an enormous sum – almost 4% of GDP. If something isn’t done by year-end, we face an almost certain recession in 2013. There is little disagreement on that.

Yet both political parties in Washington seem complacent that these issues will get resolved, one way or the other, in the last seven weeks of this year – a period which includes both the Thanksgiving and Christmas holidays when lawmakers are typically at home. This all seems very dangerous to me, especially with the deep partisan divide in Washington.

And I haven’t even mentioned the likelihood of another debt ceiling battle before the end of the year. That alone could dominate Washington in the seven weeks after the election, regardless of who wins the White House.

President Obama has staked his re-election strategy on raising taxes on the “rich,” those families making over $250K a year (and more recently endorsing gay marriage). The Republicans in Congress, on the other hand, have staked their chances on not raising taxes on anyone. What makes these bozos think they can reach an agreement on all these key issues in seven weeks, when each side has staked its political future to opposing points of view?

Sure, both sides can probably agree to another extension of the 2% payroll holiday for another year – perhaps not a really big deal in the overall picture. But the Bush tax cuts are a really big deal, whichever way the decision goes. Likewise, the automatic spending cuts are also a big deal. Here’s a good graphic to illustrate:

The table above was created by the economists at JPMorgan/Chase. The number to focus on is at the bottom right. If nothing is done to address these four issues, the economic swing in GDP could be a negative 3.5% in 2013!

I will be the first to admit that JPMorgan/Chase is not the most credible name in town in light of the latest $2-$3 billion in trading losses, but even if their estimates are off slightly, the effect on the economy and the financial markets could be HUGE.

With an economy that is struggling just to stay above 2% in GDP growth, a negative swing of 3.5% means we’re back into a recession next year. Even if the negative swing is only 2.5%, we’re back to zero growth, if not a mild recession. Think about it.

I believe it is a serious gamble to bet that Congress and Obama can reach an agreement on all these issues between the election and the end of the year. But it is obvious that this is exactly what they intend to do, even though both sides are bitterly opposed on the major issues, and have staked their political fortunes on their positions going into the elections.

I think this is one of the two biggest issues facing our nation for the rest of the year. The other is the worsening debt crisis in Europe. As a result, I will be focusing on these problems in the weeks and months ahead (plus any other negative surprises to come).

As always, feel free to pass my blog along to others. Voters need to wake up to what’s at stake!

Confused by the Presidential Polls?

There are so many political polls about the election, asking so many different questions, that it’s very confusing to discern which candidate is really ahead. Some polls show Obama comfortably ahead, while others of late show Romney leading. Here’s a good article from pollster Scott Rasmussen that will help you make sense of things:

http://www.rasmussenreports.com/public_content/political_commentary/commentary_by_scott_rasmussen/it_s_the_economy_stupid

Have a great weekend everyone!

Unfortunately, the way the Labor Dept. got to the 8.1% number was ugly. First, non-farm payrolls rose only 115,000 in April versus the pre-report estimate of more than 165,000 new jobs. Second, the so-called “participation rate” (those working or actively looking for work) fell to a 30-year low of 63.6%. This is because more people left the workforce, or stopped looking for work, than expected.

 There are 12.5 million Americans who are out of work or are under-employed. The U-6 unemployment number (which includes marginally attached workers, those working part-time for economic reasons and those who have stopped looking for work) remained at 14.5%. While today’s headline number showed a net 115,000 new jobs created, the total employment level for the month actually fell by 169,000. I doubt you’ll hear that number in the media today.

The bottom line is that while you may hear positive accounts about this morning’s national unemployment rate dipping to 8.1% on the nightly news, a look at the internals of the report shows that it was quite a different picture. The stock market certainly didn’t like what it saw, selling off immediately after learning that the economy produced only 115,000 new jobs in April.

Today’s report followed yesterday’s weekly initial unemployment claims for the week ending April 28. The initial claims report estimates how many people filed for first-time state unemployment benefits in the previous week. The number yesterday was 365,000 applicants, down from a revised 392,000 the previous week.

The media heralded yesterday’s report as great news since it was down 27,000 from the revised 392,000 from last week. But let me tell you that these weekly initial claims reports have lost a lot of credibility over the last year. Here’s why.

The weekly initial claims report, like today’s official unemployment report, is produced by the Labor Department based on various surveys they take. The initial claims report released each Thursday is revised the following Thursday based on new information received by the Labor Department.

So, for example, yesterday’s initial claims report for the week ended April 28 also included a revision of the number released a week earlier for the week ended April 21. The original number of initial claims for the week ended April 21 was 388,000. Yesterday, however, that number was revised upward to 392,000.

Why does this matter? The trend over the last year or so is that the original initial claims number tends to be revised upward just about every week. For reasons unknown, the Labor Department has been releasing a lower initial claims number on Thursdays, only to revise that number up on the following Thursday.

Let me be more specific. The last 15 consecutive weekly initial claims reports have been revised upward the following week. See a pattern here?  Yes, we do.  The mainstream media makes a big deal out of the Thursday initial claims report, and a lot of people pay attention to it. But very few pay attention to the revised number for the previous week.

Over the years, I have taken most government reports at face value. Yes some are overstated, and some are understated, but overall I have not felt there was much if any political bias among the various government reporting agencies. Yet the initial claims reports over the last year or so, with their frequent upward revisions a week later, suggest that there could well be a trend of bias in the original reporting.

I don’t expect that much will be made of this, if anything, since the mainstream media is clearly in President Obama’s camp. But I want my readers to know what is going on. If you care to keep track of this issue, start tracking Yahoo’s Weekly Economic Calendar.

This report will show you all of the daily economic reports, along with the pre-report consensus, and the revisions to last week’s/month’s original announcements. It won’t take you long to start detecting some trends in how these reports are announced and then revised later on.

I will stop short of suggesting that the Obama administration is influencing these reports to its advantage, but I will venture to say that every possible effort is being made to get the national unemployment rate below 8% before the election in early November.

Why? No American incumbent president has ever been re-elected when the nation’s unemployment rate has been 8% or above. Just something to think about.

Have a great weekend everyone!

The report noted that growth in the 1Q was driven by consumer spending, exports, private inventory investment and residential fixed investment. Negatives to growth in the 1Q were a slowdown in federal, state and local government spending and non-residential fixed investment.

Personal consumption expenditures increased 2.9% in the 1Q, compared with an increase of 2.1% in the 4Q. Real federal government consumption expenditures and gross investment decreased 5.6% in the 1Q, compared with a decrease of 6.9% in the 4Q. State and local government consumption expenditures and gross investment decreased 1.2%, compared with a decrease of 2.2% in the 4Q.

The price index for gross domestic purchases, which measures prices paid by US residents, increased 2.4% in the 1Q, compared with an increase of 1.1 percent in the 4Q. Excluding food and energy prices, the price index for gross domestic purchases increased 2.2% in the 1Q, compared with an increase of 1.2% in the 4Q.

Upon further analysis of the underlying data, today’s GDP report is more disappointing than the 2.2% number might suggest.  While a 2.2% number does confirm that the economic recovery continued in the 1Q, the fact that it was led primarily by consumer spending raises questions as to the recovery’s durability.

We know, for example, that the unusually warm weather in the first three months of this year pulled some spring (and possibly early summer) consumer demand into January-March. Spending was particularly robust on long-lasting items like autos, with durable goods spending rising 15.3% in the quarter (even though durable goods orders plunged 4.2% in March, much worse than expected).

Thus, there is a feeling that consumer spending may taper off some in the 2Q and 3Q. There is also a feeling that consumer demand could ease further in the 4Q due to the expected uncertainty about the presidential election in early November. The bottom line is, the more we look at today’s GDP report, the more disappointing it is.

Today’s GDP report comes on the heels of yesterday’s disappointing initial unemployment claims report. The Department of Labor reported that initial claims for new state unemployment benefits rose by 388,000 last week, versus the pre-report consensus of 365,000. Last week’s claims number was revised up from 386,000 to 389,000.

This is the third week in a row when initial claims were higher than expected.  These numbers suggest that next Friday’s national unemployment report for April may see an increase. You will recall that the official unemployment rate fell to 8.2% for March.

[In case you missed it, I had a blog post on Wednesday that discussed the Fed policy meeting held on Tuesday and Wednesday. As I have argued recently, Bernanke confirmed on Wednesday that QE3 is still on the table.]

Have a great weekend everyone!

The Fed Open Market Committee (FOMC) wrapped up two days of meetings today, and the official policy statement released this afternoon was a near carbon-copy of the last statement in March. The statement opened by saying that the economy has been “expanding moderately” since the last meeting on March 13. That came as a bit of a surprise to some since most of the economic reports over the last month have been disappointing.

The statement repeated the same policy language: 1) the Fed will maintain a “highly accommodative stance for monetary policy;” and 2) the Fed Funds rate will be held at 0 to ¼% through late 2014. No change there. The Fed will continue Operation Twist – buying longer-term Treasuries to replace short-term securities as they mature – which is scheduled to end in June. No surprise there.

As usual, the statement included the almost boiler-plate language about regularly reviewing the size and composition of its securities holdings, and that it “is prepared to adjust those holdings as appropriate.” As expected, the statement made no mention of extending Operation Twist, and no hint of QE3.

In his press conference after the meeting, Fed Chairman Ben Bernanke was asked multiple times about the possibility of QE3. His basic answer was that the Fed believes its current balance sheet near $3 trillion is “about right” and in “the right place” at least for now. He did say at one point that the Fed would not hesitate to add “more stimulus” if needed. Stocks rallied mildly following that remark by Bernanke.

The FOMC also released its latest economic projections for the second time this year. Today’s projections were a little bit surprising in that nine of the 17 FOMC members believe that the Fed Funds rate will rise to 1% by the end of 2014. Previously, a majority of the Committee had felt that the first rate hike would not occur until after 2014.

As for the economy, the Fed raised its GDP target for 2012 to 2.4%-2.9%, up from 2.2%-2.7% in January. As for the unemployment rate, the Fed’s new target for 2012 is 7.8% to 8.0%, slightly better than the prior estimate of 8.2% to 8.5%. However, in the press conference, Bernanke warned that the unemployment rate could go flat or increase slightly just ahead as more people start looking for jobs once again.

Other than Bernanke’s comment about QE3 still being on the table, which I discussed at length in Tuesday’s E-Letter, today’s news from the Fed was pretty much a non-event. Stocks ended the day with the Dow Jones up 89 points at 13,091 and the S&P 500 up almost 19 points at 1,390.

Interest rates have fallen sharply over the last several years. In 2006, the prime rate charged by banks to their best customers was nearly 8%, new mortgages were close to 7% and rates on risk-free Treasury bills were near 5%. Lately, the prime rate has been 3.25%, new mortgage rates are slightly over 4% and the rate on short-term Treasury securities is barely above zero.

The Fed Funds rate – the rate that banks charge each other on overnight loans – is also barely above zero, down from near 5% in 2006. In theory, low interest rates should stimulate growth because businesses will borrow to invest in new plants and equipment, and both businesses and consumers will refinance loans to free up cash flow and increase disposable income.

Over the last several years, the Fed’s low interest rate policy has sharply reduced personal income. In 2008, people earned $1.4 trillion in interest income, or 11.1% of total personal income. In 2011, interest income fell to $1 trillion and represented just 7.7% of personal income.

If people were still receiving as much interest income in relative terms as they were in 2008, total personal income would be about $450 billion higher. More than likely, personal consumption spending and GDP would be higher by about the same amount. That would have given the economy a much better rate of growth, rather than the weak recovery we’ve seen.

Quite simply, there are two sides to the low interest rate coin. While it lowers the cost of borrowing, it also lowers interest income. And while the debt service ratio for households has fallen, so has the growth of debt. In the early 2000s, household debt grew at double-digit rates, whereas over the last four years, it has grown at a negative rate, as people paid down and paid off more debt than they acquired. While debt may have grown too much in the past, it may be growing too slowly now to fuel strong economic growth.

Some economists are starting to focus on the low level of interest income as a key factor in slow economic growth. They note that those individuals most likely to depend on interest income, such as the elderly, have been forced to cut back sharply on their spending.

Alternatively, savers must seek out riskier investments than they would prefer in order to get a decent rate of return. Many believe that this is a big reason why the stock markets have soared since early 2009, and I wholeheartedly agree.

Other economists, such as Carmen Reinhart (co-author of This Time Is Different with Kenneth Rogoff), believe we may be seeing the beginning of what she calls “financial repression”—a deliberate government policy of holding down interest rates in order to make the federal debt more bearable.

While this may help the federal government, it comes at the expense of consumers and perhaps economic growth as well. You’d think they could figure this out. Or maybe they did! Alas, the high cost of cheap money.

For more on our federal debt woes, CLICK HERE to read this week’s E-letter on that very topic, in case you missed it.

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Tomorrow morning we get the March unemployment rate. The pre-report consensus is that the number will remain at 8.3%, although some forecasters are looking for a decrease to 8.2%. Still others believe it will creep higher because more people are actively looking for work. We’ll see.

The stock markets in the US will be closed tomorrow for the observance of Good Friday, so it will be Monday before we know the reaction to tomorrow’s much-anticipated report.

On a personal note, Easter weekend is a special time for my family. The kids will be home. I’ll be smoking various meats for 20-25 people, as usual. We’ve kept up the tradition of an Easter egg hunt on Sunday afternoon, even though most of our kids are college-aged. We hide several hundred plastic eggs over several acres, and at the end of the hunt, the kids use their eggs as currency to bid on numerous prizes that the parents have brought. It’s a lot of fun to see how much they’ll bid for the various prizes!

Good friends, good food and good fellowship – that’s what it’s all about.

Have a great weekend everyone!

As I wrote last Friday, most observers felt that the vote on the Obamacare mandate that everyone must buy health insurance would be close, most likely a 5-4 vote, one way or the other, with Justice Anthony Kennedy casting the deciding vote. It still looks that way. Here’s a brief summary of what happened during those three days and what is likely to happen next.

Monday, March 26: The Court opened oral arguments with a debate over whether it can even issue a ruling on the Affordable Care Act (“ACA”) since its penalties for not carrying insurance have not come into effect yet. Under a law passed in 1867, the Anti-Injunction Act, a tax cannot be challenged until someone has actually had to pay it. Health reform’s penalties don’t start until 2015. Some argued that the Court can’t make a ruling at this time.

Interestingly, both the plaintiffs and the government believed that the Anti-Injunction Act did not apply in this case and that the Court could rule now. Some felt that the High Court would like to postpone this politically-charged decision at least until after the elections in November. Yet the Justices decided to move forward now.

Tuesday, March 27: This was the highlight of the proceedings since the main topic of the day was the constitutionality of the Obamacare mandate that all Americans must buy health insurance or pay a penalty. The liberal media assumed that while it might be a close vote, the mandate would be upheld. They cited the precedence of Social Security and Medicare as examples of similar government mandates in the past.

Boy, were they in for a surprise! The Obama administration has argued all along that the Obamacare mandate is constitutional largely because of the “Commerce Clause” which gives the government the power to regulate commerce. Yet the states have argued that requiring individuals to purchase health insurance does not qualify as “commerce.”

To the shock of the media, Justice Kennedy let it be known early in the session that he questions the government’s power to do this. Justice Kennedy asked, tongue-in-cheek, “Can you create commerce in order to regulate it?” Kennedy subsequently made several other comments that suggested he is opposed to the mandate.

The conservative Justices on the High Court (save for Justice Thomas who did not speak) are clearly concerned that the mandate, if it stands, would open the door to the government mandating that we buy other things as well, such as healthier food, more fuel efficient cars, etc. Justice Scalia at one point said, “…therefore, you can make people buy broccoli.” Wow!

At the end of the day, even speakers on left-leaning media outlets such as MSNBC and CNN concluded that Tuesday’s arguments over the constitutionality of the mandate had been a “train wreck” for the government, especially given the concerns expressed by Justices Kennedy, Scalia and Roberts.

Wednesday, March 28: Arguments on the final day focused mainly on what would happen to the other parts of Obamacare if the mandate is ruled unconstitutional. Since there was no “severability” clause in Obamacare, the Justices must decide if everything else in Obamacare goes away if the mandate is struck down, or if most everything else can remain in place.

This is a very difficult issue because the mandate is the primary funding mechanism for Obamacare. The insurance companies desperately need the millions of young, healthy people to buy insurance as per the mandate. Without it, it will be virtually impossible for the insurance companies to provide the services Obamacare calls for.

What was clear on Wednesday was that there are Justices on the Court who firmly believe that if the mandate goes away, then all of Obamacare goes away. For the liberals on the Court and in the media, Wednesday was another very troubling day.

Finally, it is always dangerous to read too much into the oral arguments in the High Court. The actual rulings will be made over the next several weeks behind closed doors, with a final announcement not expected until late June. A lot can happen between now and then. But the bottom line is that even some prominent liberals described this week’s Supreme Court proceeding as a “train wreck” for Obamacare.

Late breaking note: A new Rasmussen poll out yesterday found that 54% of likely voters believe the Supreme Court will rule that Obamacare is unconstitutional. That’s huge!

Have a great weekend everyone!

Bloomberg reported that the Italian Treasury received double the amount of bids (€10 billion) for the €5 billion in bills that it auctioned, which dampened some fears that Italy is facing a funding crisis. Also helpful was the announcement by Greece of a new Prime Minister, Lucas Papademos, who is widely seen as a solid replacement for outgoing PM George Papandreou.

It was also widely reported that the European Central Bank bought more Italian bonds ahead of the bill auction and afterward as well. This helped bring the bond rate down below 7%. But the ECB also cautioned that it doesn’t intend to be the buyer of last resort for Italian debt. It won’t be known until Monday just how much in Italian bonds the ECB purchased last week.

Meanwhile, Italy’s Senate is rushing to pass debt-reduction measures that clear the way for establishing a new government. The Senate is set to vote today on a package of measures including asset sales and an increase in the retirement age. The Chamber of Deputies may vote as early as tomorrow, and Prime Minister Berlusconi will resign “immediately,” sources said.

With yesterday’s better than expected bill auction, and with the bond yield below 7%, it remains to be seen if things settle down in Italy following several gut-wrenching days as yields soared to new euro area highs. Frankly, it will surprise me if Italy’s financial firestorm is over, but there are a few things to keep in mind.

First, Italy’s debt-to-GDP ratio of 120% is troubling, no doubt, but Italy’s debt-to-GDP ratio has been over 100% since 1992. The country’s budget deficits have been coming down in recent years, and a modest budget surplus is expected in 2012. If the government can continue to run surpluses (and that’s a big IF) and succeeds in implementing the latest round of austerity measures, some analysts believe Italy can continue to roll over its $2 trillion in debt – assuming yields remain well below 7% and the economy does not fall into a recession.

On the other hand, if bond yields move back above 7% or to 8% and investors head for the exits in droves just ahead, it is hard not to envision more financial chaos and further weakening of Italy’s economy. The next few weeks will be critical as Italy has more large debt auctions around the week of Thanksgiving. Look for Italy to remain the 800-pound gorilla in the room.

Equity markets around the world are booming as this is written, so the roller coaster stock markets continue. As of noon (central time), the S&P 500 has almost recovered all of the losses from earlier in the week. But keep your seatbelts fastened tightly!

** From all of us at Halbert Wealth Management, we send a heartfelt THANK YOU to all the Veterans out there! Your service and dedication to our great country are greatly appreciated.

Investors began to abandon Italian bonds in droves last week as fears intensified that Italy would be the next Eurozone country to experience a debt crisis. As I wrote last week, Italy has a national debt of €1.9 trillion ($2.6 trillion) compared to Greece’s €355 billion. Italy has the eighth largest economy in the world based on GDP and the fourth largest in Europe. Its annual GDP was just over $2 trillion in 2010.

Yields on 10-year Italian bonds soared to 7.4% in late trading in Rome today, a high for the euro era, in the latest sign that investors are fast losing faith in the world’s third-largest sovereign-bond market. Yields might have risen even higher in the past week but for heavy bond buying by the European Central Bank. Another reason for the jump in Italian bond yields is that international clearing house LCH.Clearnet raised margin calls on Italian bonds, making them more expensive to trade.

With the cost of Italian debt soaring, the euro is plummeting and the large-scale debt crisis that we have all been fearing appears to be unfolding before our eyes. At rates of 7-8%, more investors may decide to head for the exits, and Italy could find itself unable to raise sufficient money in the bond markets.

Given the sheer size of Italy’s debt, it may require huge international assistance. The funds potentially available to Italy from Europe and the International Monetary Fund are unlikely to meet Italy’s needs, however. Failure to halt the crisis could lead, in the worst case, to an Italian debt default that cripples Europe’s banks, plunges the region into a slump and roils the global financial system.

Investors Losing Confidence in Italian Debt

With Italian bond yields surging higher, analysts say Italy is at the brink of being unable to afford to borrow in the public markets. Italy has long relied on the fact that its debt level, although high at 120% of GDP, isn’t rising much thanks to Rome’s relatively small budget deficit. But the country still needs to borrow hundreds of billions of euros a year to repay its debts coming due.

Next year, Italy must borrow enough money to repay more than €300 billion in maturing debts and cover a targeted budget deficit of up to €25 billion. If investors aren’t willing to lend Italy such sums, Europe will have to prop up the country with all the money it can muster—with help from the IMF – or risk a global financial crash.

A failure by Italy to honor its debts on time is currently considered a remote prospect, precisely because its impact on Europe’s banking system and other government bond markets would be so disastrous. But it is certainly not as remote a possibility as just a few months ago. European policy makers are scrambling to draw up contingency plans (ie – a bailout) in case Italy can’t attract enough private capital.

So far, Italy has been able to attract buyers for its debt, albeit at rising costs. When Italy launched a new 10-year bond in August, it paid buyers a yield of 5.22%. When it sold more of the same bond in October, the yield demanded was 6.06%. Today it went to 7.4%.

A short-term spike in borrowing costs is a manageable problem for Italy, since only a small part of its debts need to be refinanced at a given time. The problem isn’t necessarily higher yields, but investors’ appetite for holding Italian debt at all. Many investors now fear that Italian bonds will lose further value, inflicting losses on them. This could leave the government with too few buyers of new bonds.

According to the Italian Treasury website, Italy has almost €59 billion in total maturing debt in November and December, some of which has already been rolled over during the last two weeks. The Treasury estimates that it will have to sell apprx. €325.8 billion in various debt over the next 12 months ending in October 2012.

Most importantly, the Italian Treasury has reportedly decided to go ahead with an auction of $5 billion in T-bills tomorrow. With yields on 10-year bonds surging to 7.4% today, it will be critical to see what yields do tomorrow. If Italian yields continue to rise, expect to see some very ugly markets tomorrow morning!

I’ll keep you posted with additional blog posts as needed in the next few days.

As for our lead topic today, the Fed Open Market Committee (FOMC) convened on Tuesday and Wednesday to set monetary policy for the next few months. Each time the FOMC meets, it issues a policy statement afterward. Wednesday’s policy statement was almost a carbon-copy of the September statement, but with a few interesting twists.

You may recall that prior to the September FOMC decision, it was widely anticipated that the Fed would announce yet another round of “Quantitative Easing” or QE3. The Fed didn’t. Instead it announced that it would embark on a program of reshuffling its massive securities portfolio by switching short-term maturities to long-term securities. This process is called “twisting.”

The intended effect was to lower long-term interest rates even further, thereby providing some relief in the home mortgage market. While trading short for long did not involve buying more net securities (ie – QE3), it was reasonably well accepted as “doing something.” So, how has it worked so far? The following chart illustrates that the so-called “Operation Twist” has thus far had little effect on long-term rates and mortgages.

As you can see, 30-year mortgage rates dipped initially after the Fed’s announcement in late September (vertical green line), from just above 4% to just below 4%. But then rates moved back above 4% again, and at the end of October were hovering right at 4%. The net result is that the Fed’s Operation Twist has had little, if any, meaningful effect, at least so far.

In this week’s FOMC policy meeting, the Fed voted to continue Operation Twist despite its lack of effectiveness in lowering long-term interest rates. And it continued to advance its policy of keeping short-term interest rates near zero percent until at least the middle of 2013.

Shuffling the Deck Chairs at the Fed

The FOMC consists of 12 voting members, including the Fed Chairman, currently Ben Bernanke. The FOMC members are typically made up of a combination of “hawks” – those who favor more conservative monetary policy, and “doves” who favor more liberal policy. In late September when the Fed voted to implement Operation Twist, there were three hawks that voted to oppose the policy.

Yet this week, all three of the so-called hawks that voted against the policy in late September voted in favor of continuing Operation Twist this time around. I can find no information that hints of why this change of mind occurred. We can only assume that Chairman Bernanke succeeded in some arm-twisting since the September FOMC meeting.

Most surprising of all in this week’s vote was that one FOMC member who is a dove voted against continuing Operation Twist.  That was Chicago Federal Reserve Bank President Charles Evans, the lone dissenter, who called for more quantitative easing (QE3) now to support the fragile economy.

So what are we to glean from all this? The growing consensus is that the FOMC is migrating toward another round of Quantitative Easing (QE3). Why? Bernanke was able to switch three hawks over to his side with this week’s meeting. And one dove, Charles Evans, voted against continuing Operation Twist in favor of more QE now.

The next meeting of the FOMC will be on January 24-25, and it remains to be seen if QE3 will be enacted at that time. That will depend, of course, on the economic reports between now and then. We had a little economic encouragement of late in that the advance GDP report for the 3Q came in better than expected at 2.5% (annual rate), up from 1.3% in the 2Q.

So what does this mean, if anything, for us as investors? Here’s what. The net result of QE1 and QE2 was a big run-up in stock prices. If we’re on track for QE3 in late January of next year, then it would be reasonable to expect yet another stock market surge early next year. Of course, the devil is always in the details (ie – how large might QE3 be, etc.).

The point is, the Fed seems to be positioning for more QE next year. That might mean that stocks break out of the broad trading range of this year to the upside early next year. But that all depends on what happens with the European debt crisis and whether or not Greece defaults. I’m not optimistic. That’s why I have the bulk of my money in the equity markets invested with professionals who can go long or short or just sit in cash in money markets.

Have a great weekend everyone!