How Does the Federal Open Market Committee Work? And What Does it Mean for Investors?

Understanding national monetary policy can seem like an impossible challenge. It’s certainly not simple, and there is so much to try and get your head around. But that doesn’t mean you should avoid trying to inform yourself as much as possible. Burying your head in the sand is never the best idea when it comes to things like this. For investors, this is especially important. If you don’t understand how things like the Federal Reserve and the Open Market Committee work, you’ll be at a disadvantage. The Federal Open Market Committee is one of the most important financial institutions in the country. So, it’s vital to know as much about it as possible.

What Is the Federal Open Market Committee?

To put it simply, the Federal Open Market Committee (FOMC) is the arm of the Federal Reserve System that deals with monetary policy. There is a Board of Governors that work alongside the FOMC, and we’ll discuss the importance of that board later on. The FOMC makes many of the key decisions that can directly affect the health of an economy, so it’s very important indeed. It can take action by spending money and trading government securities. When it does this, the aim is not to make a profit though. Any profits go to the government.

The goal of open market operations is to manage the interest rate and the supply of money. At times when there is an increased demand for money in the economy, the FOMC can pursue new policies. These policies can act as stimuli, and it can keep interest rates at the right level. A failure to take action when there is demand in the economy can lead to interest rates slumping, and that’s not desirable.

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What Are Its Key Roles and Functions?

Meeting eight times a year, the key decisions are made in the FOMC. Its basic function is to make the decisions that really matter to the country, in terms of financial and monetary policy. It gets its money predominantly from a portfolio of securities. The FOMC is responsible for controlling open market operations and attaining economic growth rates. This is an important role in a functioning economy, but how exactly do they go about doing this?

Controlling inflation is the first thing that the FOMC must aim to do. If inflation gets out of control, it can have all kinds of adverse effects on the real economy and on real people. In many countries where very high inflation is experienced, things like food shortages can occur. Inflation is ideally kept at around 2%. The other important issue is employment. Unemployment needs to be fought. But the FOMC doesn’t aim for full employment. That’s because it’s claimed that this makes it harder for companies to find new employees and remain productive.

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How Has the Federal Reserve and the Federal Open Market Committee Developed?

It was in 1933 that the FOMC was formed thanks to the Banking Act of 1933. In 1935, new measures were brought in place to turn the FOMC into the institution we recognise today. Later in the decade, it started issuing economic policy statements periodically. Since then, there have been changes and upheavals forced upon the Federal Reserve and the FOMC. These have occurred as a result of external instances in many occasions.

Making sure that banks have enough reserve funds became a big issue for the FOMC in the 1980s. This led to it adopting a new policy that ruled the Reserve Bank must inspect the holdings of the country’s big banks each year. After the recession and financial crash of 2008, the independent Bureau of Consumer Financial Protection was set up. This aims to give consumers the information they need when making decisions of a financial nature. It’s hoped that this will make banking and financial services in the country a bit fairer for everyone who relies on them.

Who’s Involved?

The FOMC consists of twelve voting members. Seven of them are the Board of Governors of the Federal Reserve System. Then there are eleven Reserve Bank Presidents that rotate their positions; four serve at any one time. And, last of all, there is the President of the Federal Reserve Bank of New York. Members can change periodically, but their job roles remain broadly the same. They must work in the interests of the American economy and reach their aims.

Reports and evidence are prepared and presented for the committee to help them in the decision-making process. On top of this, various other factors have to be considered when they are making decisions and setting policies. Under the law, the FOMC has to meet at least fours times a year. But in reality, they meet twice that amount of times each year. Only people with the correct authorisation can be present in the room when these meetings take place. Some of the information discussed is sensitive and classified, so they’re not open to the world.

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Why Should Investors and Citizens Care About Any of This?

That might all sound very complicated, but it does matter to citizens and investors in particular. If you want to know about the latest FOMC meeting, you should visit Money Morning. This will tell you what you need to know. But why do investors need to know about this in the first place? Well, the FOMC controls important things like interest rates. These have a big impact on anyone who is investing in businesses or real estate. And, of course, the strength of the overall economy matters to everyone.

The regular meetings announcements can give you lots of information. It’s common for top investors to pay very close attention to what comes out of these kinds of meetings. And there are many reasons for that. If you know what the FOMC is doing and deciding, you can see which direction the American economy is heading in. That kind of information is very valuable to anyone who is investing. The success of your next investment could depend on it.

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L&T Infotech IPO review

L&T Infotech has come out with Initial Public Offering (IPO) of 17,500,000 Equity Shares of Rs 1 aggregating up to Rs 1,400.00 Cr. Incorporated in 1996, Larsen & Toubro Infotech, a subsidiary of Larsen & Toubro Ltd., a Mumbai based IT Solutions & Services Company. The company is ranked 6th largest IT company in India in terms of export revenues and among top 20 IT service provider in the world.

Competitive strengths of the company are as following:

1. Strong domain focus enabling Business-to-IT Connect
2. Strong parentage and brand equity of our Promoter
3. Established long-term relationships with our clients
4. Extensive portfolio of IT services and solutions
5. Track record of established processes and executing large, end-to-end, mission critical projects
6. Strong management culture
7. Conducive work environment to attract and retain talent.

L&T Infotech IPO


The price band for the issue is fixed at Rs 705-710 and the offer comes at a price equity of 13.0x-13.1x trailing (FY16) earning per share (EPS), which is at 25-30 percent discount to peers like Mindtree & Hexaware. L&T Infotech is 24 percent and 83 percent larger than Mindtree & Hexaware, respectively in terms of revenue, and earns substantially higher returns on equity (RoE).

The issue is open from July 11 - July 13. 

So, should you subscribe? 
The offer price looks attractive, given its strong parentage, healthy return ratios and high dividend payout. The promoters have left something on the table for the investors in terms of valuations.

Choosing Between Fixed-Income and Equity-Linked Investments.

Choosing between Fixed-income and Equity-linked investments.

As an investor, one always wishes for the best returns from investments without any risk of losing money. However, in reality, risk and returns are inversely related, i.e. with more risk come higher returns and vice versa.

For investors, the choice between fixed-income investments and equity-linked investments becomes more pronounced when it comes to meeting goals. Let's see how different investment avenues may be put to use while chasing goals.
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Fixed-income investments: Interest-bearing investments such as bank fixed deposits, company deposits post office small savings products and bonds are popular among fixed-income investors. They come with a fixed return and a pre-decided maturity period. One should be investing in these instruments, only when the requirement is fixed and certain in the near future.
The principal amount invested is fairly safe in such products. They, however, fail to generate high real returns, i.e. returns don't keep up with the inflation. For example, if the return generated from them is 8 per cent while inflation is 6 per cent, the real return will be around 2 per cent.

Equity-linked investments:  In  Equity-linked investments, the returns depend on the performance of the underlying asset, namely equity shares, One could invest in equity shares directly or in mutual funds but returns from these instruments are not assured, but the potential to generate high return is also there.


Taxation: 
The interest income from most fixed-income investments such as bank deposits, post office time deposits, NSC, KVP and bonds is fully taxable as per the income tax slab of the individual. The post-tax return from them therefore is much less than what they offer.

Equity-oriented investments such as equity mutual funds, Ulips and NPS are more tax-friendly. Equity-linked savings scheme (ELSS), a variant of equity mutual fund, provides exposure to equities, gives tax-exempt return and even helps in reducing one's tax liability under section 80C.


Conclusion:

Since fixed income investments generate low real returns, it is imperative for an investor to look at equities.  If you are young and have no responsibilities in the near future and can afford risk taking, then investing in equity-linked investments like mutual funds, makes sense.

Be a wise investor!

Weekend Roundup

Weekend Roundup


weekend read

Some stuff  worth reading this weekend:

Pound heads for biggest fall on record (Bloomberg)

Mahanagar Gas IPO oversubscribed 64 times (Money Control)

5 word financial advice for new graduates (TRB)

Is gold a store of value or investment? (Barry)

Appetite for hotel stocks improves (Mint)