After almost two years of continuous support from the Federal Reserve, the markets are now flying solo. The second round of quantitative easing (QE2), which began in November, officially terminated on June 30. Over that period, the Fed added $600 billion in additional liquidity to the market by purchasing US Treasury bonds.

The program drove stock prices skyward and sparked a bull run in Treasuries.  At the same time, critics also blamed QE2 for the run-up in commodity prices. Now that QE2 has come to an end, a number of economists have slashed their forecasts for US gross domestic product growth in 2011.

There’s reason for concern. When the first round of quantitative easing ended in 2010, the S&P 500 fell 150 points before QE2 came to the rescue.  Small-cap stocks took a sizable haircut, the spreads between mid-rated bonds and Treasuries widened substantially, and oil prices fell by about $10 per barrel. At the same time, gold prices surged and the yield on the 10-year Treasury note tumbled by more than 1 percent.

Accordingly, many analysts predicted that June 30, 2011, would usher in financial Armageddon. Those doomsday scenarios haven’t played out thus far.

But the Fed isn’t withdrawing its support for the markets; it’s merely slowing its support. Although the Fed won’t contribute new cash to quantitative easing, the central bank will continue to reinvest the proceeds collected from maturing bonds. Rather than fearing crashing equity prices, investors should be concerned about the direction in which interest rates will head.

Since QE2 kicked off, the Fed has purchased about 70 percent of the Treasury debt issued. These purchases kept an artificial lid on rates, but foreign and domestic investors now will likely demand higher yields on Treasury bonds. Higher rates, combined with a weakened US economy, could cause the market to lose steam and devalue bond investor’s holdings.

Nevertheless, investors need not take drastic action. A few adjustments to shorten bond durations will suffice.

Equity-focused investors should sit tight while boosting their exposure to dividend-paying stocks. Fixed-income investors should consider shortening their portfolio duration by adding shorter-term debt to their holdings. That can be accomplished by either building upon existing positions in short-term bond funds or by purchasing individual bonds with a short maturity. These moves will help investors hedge against any major fluctuations in bond prices while realizing higher income streams from longer-term debt.