The Falling Dollar

To torture a line from Forrest Gump—“stupid is as stupid does”—in economics, money is as money does. And money both is and does based on what the Federal Reserve decides to do with it.

For almost 30 years now, John Beuerlein, chief investment officer and chief economist for Marquette Asset Management in Minneapolis, has studied the money flowing in and out of the Fed’s central bank coffers. Those rivers of currency—swollen in times of high liquidity and low interest rates, parched when money is tight and rates are high—have a profound effect on investors, markets, and the ways in which money is made and lost. With the relatively recent rate cuts, the river of money is flowing more swiftly. But the value of the U.S. dollar has continued to deteriorate, raising worries about inflation.

Beuerlein’s work and his insights are a key component in the decision-making process behind Marquette’s management of more than $600 million for high–net worth individuals and institutions. His advice is also sought by Twins owner and banker Carl Pohlad and the people who manage his far-flung business interests.

{Q} In the classic sense, what is the Federal Reserve Bank’s model?

{A} The classic Fed model looks at forward earnings yields on stocks; the forward earnings yield is the inverse of the price earnings ratio. For round numbers right now, the forward projected earnings for the Standard & Poor’s 500 is about $100 a share. With the [S & P] index at about 1,500, the $100 in earnings divided by 1,500 gives you about a 6.5 percent yield. Compare the earnings yield to the risk-free rate, which on the 10-year Treasury is about 4.4 percent or 4.5 percent. Money tends to go where it’s being treated the best, so when you’re getting a better return on your stock portfolio, you’ll tend to overweight stocks over bonds.

{Q} How does your Fed model differ?

{A} I look at liquidity. When I got into the business in the late ’70s and early ’80s, I ran into a fellow who, at the time, was chief of research for Goldman Sachs. He told me not to worry about research reports, but to understand the people who control the money in this country, and that’s the Federal Reserve. He suggested that I look closely at the St. Louis Fed, because they have records on different measures of liquidity going all the way back to 1920. What those records show is that when liquidity starts to expand, economic activity, not too long after, starts to expand. Conversely, when liquidity contracts, after a lag effect, so will economic activity.

{Q} Is that still the case?

{A} Yes. The current Federal Reserve, from the early 1980s on, has studied this very thing. That’s why [former Federal Reserve Chairman Alan] Greenspan, and [current Chairman Ben] Bernanke are so aware of the liquidity situation. The studies showed that liquidity would shrink in a crisis, and until you started to see that liquidity expand, you couldn’t get out of the crisis.

{Q} Do you believe the Fed is on the right track?

{A} The Fed’s very charge is to try to keep the economy moving forward at a reasonable pace. They’re going to say they’re more concerned about the impact on the economy. Well, where does the economy begin and where do markets begin? They’re both intimately tied together. The markets can’t move ahead if the economy is grinding to a halt.