Operation Twist Not Much of a Dance

The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.

NEW YORK ( Fisher Investments) -- 0.001%.

As of the market close on Oct. 12, that's the reduction in the 30-year Treasury rate since Sept. 20, the day preceding the Fed's declaration that it would sell $400 billion of short-term Treasuries and buy $400 billion of long-term Treasuries.

The target of this Operation Twist? Reducing long-term interest rates to theoretically spur more demand for financial instruments like mortgages. But unless we're misinterpreting the Fed's public commentary, it seems thus far Mr. Bernanke's Twist has been roughly as effective a monetary policy move as Chubby Checker's.

Operation Twist is somewhat dubious policy. First of all, if the Fed seeks to lower mortgage rates, changing the composition of government securities on its balance sheet is only one tool. The Fed could have instead simply bought mortgage-backed securities (MBS) like it's done at points in the past few years.

And in its Operation Twist announcement, the Fed announced it would change course and reinvest the proceeds of maturing MBS into additional MBS. So there you have it, they agree.

But Operation Twist is more confusing than just that. Assuming it would be effective, the result would likely be a flatter yield curve. But that the Fed would embark on a policy with this potential outcome is quite head-scratching. Consider: the Fed itself has extensive research showing a steep yield curve (like the one existing today) is generally predictive of economic growth. So exactly why would we want a flatter one?

There are myriad potential explanations. Perhaps the Fed accepts this potential result as it sees a flatter yield curve resulting from the Twist as a move to slow future potential loan growth that could turn banks' excess reserves of over $1 trillion into inflationary tinder -- almost a hedge against its previously announced intent to hold short-term rates ultra-low through next year. But that's pretty far out there and isn't what it said. And since neither we nor anyone else have devised a way install a mole inside Bernanke's brain, it's impossible to know for certain.

But beyond this, while no one doubts the Fed is a powerful institution, the assumption its stated plans definitively translate into results is folly -- a fact evident when reviewing the 30-year rate of 3.194% on Sept. 20 and today's rate of 3.193%. More broadly speaking, a Fed with more bark than bite isn't new. In fact, a 2004 review of 1961's edition of Operation Twist, penned by none other than Ben Bernanke himself, claimed it had a modest, if any, impact.

"(1961's) Operation Twist is widely viewed today as having been a failure, largely due to the classic work of Modigliani and Sutch (1966, 1967). Empirical estimates of the "habitat model" of interest-rate determination by these authors led them to conclude that Operation Twist narrowed the long-short spread by amounts that "are most unlikely to exceed some ten to twenty base points -- a reduction that can be considered moderate at best." --Ben S. Bernanke, Vincent R. Reinhart and Brian P. Sack.

The authors went on to note they felt the size of 1961's Twist was too small to effect real results, and that the Treasury's debt management actions potentially sapped its effect. So 2011's twist is bigger. But so far, the effect on Treasuries seems quite modest. Even so, what also likely has a modest impact, at best, is lower long-term interest rates, considering they're already near historical lows.

Ultimately, whether the Twist succeeds or fails seems unlikely to have a lasting impact on markets. Perhaps, given that it's been only three weeks, the reduction in long-term rates is yet to come. But it seems to us if there's been little real impact in the weeks since its announcement, it's a bit unreasonable to expect the Twist to affect rates, markets or the economy very much moving forward.
This commentary comes from an independent investor or market observer as part of TheStreet guest contributor program. The views expressed are those of the author and do not necessarily represent the views of TheStreet or its management.