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Are Central Banks Guardians of the Economy?

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JEFF KLEINTOP: Have investors been watching too many superhero movies lately? Forget Guardians of the Galaxy, I think investors think central banks are guardians of the economy with all these superpowers to defeat any threats to the economy, but that’s not really how it works.

Central Banks like the Fed have one power and that’s to ease financial conditions, mainly through lowering interest rates--and that’s not really the battle we’re fighting right now. For example, one of the weakest economies in the world is Germany. Interest rates in Germany are negative, so it’s not like high interest rates are causing this global economic slowdown. It’s more like trade policy, the recession in manufacturing, and the slump in profits in a year-over-year basis. So, these are the factors we’re faced with and monetary policy might not be as effective as it’s been sometimes in the past. As a matter of fact, the Fed cut rates back in 2007, and that didn’t stop the 2008 recession.

So, investors may have too much confidence that the Fed’s able to thwart this slowing global economy, but there is one investment takeaway that’s an opportunity associated with what the Fed and other central banks are doing. That’s in the financial sector. When the Fed cuts interest rates, it tends to be a negative for the financial sector. Earnings tend to slide as they make less money on interest rates.

But there’s another way central banks can stimulate the global economy, and that’s through QE. Remember that? Quantitative easing, when central banks buy assets. Well, that can actually help financials, support their earnings, and actually even lift their stock prices. So, what we might start to see is a difference between the performance of financials in the U.S. that might suffer a little bit from lower interest rates, and better performance outside the U.S. where central banks like the European Central Bank and the Bank of Japan are actually doing quantitative easing.

So, that would be an opportunity here as non-U.S. financials begin to outperform related to what central banks are doing right now. So, we’ll keep an eye on this and other opportunities associated with developments in the markets. Thanks for watching.

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Have investors been watching too many superhero movies lately? Forget guardians of the galaxy, some investors seem to think central banks are guardians of the economy with all these superpowers to defeat any threats, but that’s not really how it works. Jeff Kleintop discusses the role central banks play in the global economy on this episode of Stock Market Report.

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