Global strategists have predicted the Federal Reserve could reduce its quantitative easing (QE) programme by as much as $20bn (£12.6bn) a month – twice that of present market expectations.
The Fed is meeting this week and is expected to outline plans to reduce the amount of bonds it buys each month.
When the Fed first revealed its intentions for tapering QE in May this year, equity markets fell across the world and have yet to recover to their peaks. Strategists now speculate that if the Fed goes beyond market expectations, market volatility could spike.
Experts said the market is expecting US QE – the $85bn per month of asset purchases undertaken by the Fed – to be reduced by $10bn per month, but some believe Ben Bernanke, the Fed chairman, could go a step further.
Kerry Craig, global market strategist at JPMorgan Asset Management, said there could be a rise in volatility due to uncertainty surrounding the size of tapering announced.
He said: “It is expected to be between $10bn and $15bn, but it could be as high as $20bn so that will lead to volatility.”
That said, Mr Craig believed markets in general had become more sanguine about the effects of tapering. He pointed to recent positive US economic news, which had not led to a drop in markets on the prospect that it may speed up tapering.
However, Teun Draaisma, managing director and strategist on BlackRock’s global equities team, said while tapering was good in the long run because it indicated a stronger economy, in the short term it could be difficult for equity markets.
He said: “The reduction of stimulus is always a difficult moment for equity markets, such as in 1994 or 2004.
“Given that we have come from record amounts of accommodative policies, it could be more difficult now than either of those examples.
“In general, while quantitative easing is accelerating, the price to earnings (p/e) multiple of the market expands and when it is decelerating, the p/e contracts.”
While the market consensus is for a $10bn reduction in QE, Mr Draaisma said it would make sense for the Fed to announce a decrease closer to $20bn, double market expectations.
He said the amount of tapering would not be the main driver of markets, though, as the markets will focus on Mr Bernanke’s statement and what his future plans were.
“If the Fed only tapers by $10bn but says it will do more soon, the market will not like it, but if it tapers by $20bn but indicates there will be no more soon, we could see a rally,” he said.
The statement from Mr Bernanke will be analysed for hints about when the Fed will raise interest rates, which the market is still expecting to happen much sooner than the central bank had previously indicated.
Lars Kreckel, global equity strategist at Legal & General Investment Management, said Mr Bernanke will likely look to “soften the blow” of tapering with a dovish statement, possibly even lowering the unemployment threshold at which interest rates would begin to rise to below 6.5 per cent.
However, Max King, global strategist at Investec Asset Management, said any surprises from the Fed’s statement this week would likely revolve around the central bank revealing a faster pace of tapering rather than interest rate rises.
Mr King said the Fed should look to taper QE to at least $50bn straight away in order to match it up with the fiscal deficit.
