Markets Rally as Fed Announces Open-Ended QE3

All eyes were on the Federal Reserve on Thursday. Market participants expected the Federal Open Market Committee to announce a third round of quantitative easing in order to help a sluggish economy and hopefully trigger a decline in the unemployment rate. The major averages meandered around the breakeven line leading up to the 12:30pm ET announcement.

The Federal Reserve said that it would buy $40 billion worth of mortgage-backed securities each month on an open-ended basis. We're looking for ongoing, sustained improvement in the labor market, Chairman Ben Bernanke said in his press conference today in Washington which concluded a two-day meeting of the Federal Open Market Committee. There's not a specific number we have in mind. What we've seen in the last six months isn't it.

In combination with other policy measures, today's announcement means that banks will have access to an additional $85 million in funds per month, courtesy of the Fed. Although the size of QE3 is considerably smaller than QE1 or QE2, the open-ended structure of the bond buying program is a new twist in the Fed's tool kit.

The central bank's statement said that "If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved."

In addition to announcing the new round of asset purchases, the FOMC also extended its language on interest rates. Previously, the central bank has said that short-term rates will remain near zero until mid-2014. In Thursday's statement, that language was changed to mid-2015. The central bank also said that it will continue with its "Operation Twist" program whereby it sells shorter-term securities to buy longer-dated debt.

In addition, the statement indicated that the Fed would continue to reinvest its portfolio of maturing mortgage-backed securities back into housing debt. The goal of these monetary policy maneuvers is to further drive down interest rates and add liquidity to the economy in the hopes of stimulating stronger economic growth and lower unemployment. Eleven of the twelve FOMC members voted in favor of Thursday's policy measures with the lone dissenter being Richmond Fed President Jeffrey Lacker.

The extent of the Fed's latest round of monetary policy prescriptions seemingly was above and beyond market expectations, as stocks surged in the wake of the announcement. After trading just north of the unchanged line leading up to the decision, stocks climbed throughout the rest of the session, with the Dow adding 206 points to close at just below 13,540. The widely watched blue-chip average traded in a range between 13,325 and 13,573.

Markets may also have been heartened by slightly more optimistic economic forecasts which the Fed also released on Thursday. The central bank now projects that unemployment will be between 6.7 percent to 7.3 percent by 2014 versus its previous expectations for 7 percent to 7.7 percent unemployment. By 2015, the Fed thinks that unemployment will be down to 6 percent to 6.8 percent. Economic growth is also expected to pick up, reaching 3 percent next year and as much as 3.8 percent in 2014. This compares to previous estimates of 2.8 percent and 3.5 percent, respectively.

With the full assurance of further policy accommodation from Bernanke and the FOMC, investors bought stocks and commodities throughout the afternoon. Long-term Treasuries pared their gains in the wake of the FOMC announcement and ended the day lower. The SPDR S&P 500 ETF (NYSE:SPY) jumped 1.52 percent and closed the session at $146.59. Unsurprisingly, volume was heavier than normal with around 196 million SPY shares trading hands compared to a 3-month daily average of 128 million.

The PowerShares QQQ Trust ETF (NASDAQ:QQQ), which tracks the performance of the Nasdaq 100, climbed 1.35 percent to finish at $69.56. The QQQ has now added nearly 25 percent in 2012, and is sitting at a new 52-week high.

Crude oil also rose on the session. NYMEX crude futures were last trading up a little better than 1 percent at $98.00 in the electronic GLOBEX session.

Gold futures were very active in the wake of the FOMC announcement, and were last up around 2 percent to $1,769.00. Most of the day's gains came in the wake of the QE3 announcement, when the precious metal surged on heavy volume. The SPDR Gold Trust ETF (NYSE:GLD) ended the day with a 2 percent gain at $171.31.

The iShares Barclays 20+ Year Treasury Bond ETF (NYSE:TLT) traded up for the first half of the trading day, but fell after the FOMC announcement, closing down 0.39 percent at $121.53. The yield on the 10-Year Note fell 3.8 basis points to 1.72 percent despite the sell-off in longer-dated U.S. debt.

The U.S. Dollar fell on Thursday, as investors dumped greenbacks after learning that the Fed would be engaging in more money printing through QE3. The PowerShares DB US Dollar Index Bullish ETF (NYSE:UUP), which tracks the performance of the dollar versus a basket of foreign currencies, closed the session down 0.64 percent at $21.75.

(c) 2012 Benzinga does not provide investment advice. All rights reserved.