Skip to comments.Bernanke's Bumpy Ride -- Investors Beware
Posted on 06/29/2013 5:49:45 AM PDT by Kaslin
No matter how many monetary officials try to sugarcoat it with damage control, the fact remains that the Ben Bernanke Fed wants to end its quantitative-easing bond-buying operations over the next year. That was Bernanke's statement at his last press conference, and I've seen nothing to contradict it.
As everyone knows, stocks and bonds collapsed right after Bernanke let the cat out of the bag. Fortunately, markets have stabilized since then. But my hunch is that unless the economy really falls back into a quasi-recession, the Fed is going to go ahead and end its bond purchases.
The central bank will more than likely begin to taper in September. And it will do so based on roughly 175,000 new jobs each month, which is consistent with a 2 to 2.5 percent economy.
But as the Fed implements this policy, there's going to be a lot more volatility in the financial markets, with significant downside risks for stock prices and upside potential for longer-term interest rates.
Investors beware. The second half of this year could be a bumpy ride.
Now, nobody asked my opinion on this. But I wish the Fed would leave its current accommodative policy in place, rather than taper down its quantitative easing. Why? Let me begin with the crashing gold price. Although gold has been dropping from $1,900 for a couple years now, it has fallen several hundred dollars recently to around $1,200. Gold is an important market-price signal of money policy and inflation, the latter of which has dropped to 1 percent year on year. So today's gold price is a deflationary signal.
The strong dollar reinforces the gold indicator, as do weaker commodity and metal prices. They're all telling the central bank to go very, very slowly in unwinding QE.
Also, this is only a 2 to 2.5 percent economy. Market monetarists are focusing on a soft nominal gross domestic product rate, which is less than 4 percent. That's another signal that the Fed should not tighten its cash-injecting money-supply policies. As the monetarists well know, a slowdown in Fed bond buying will translate to a slower rate of growth for the monetary base and likely for M2. The falling turnover of money, or velocity, is already a cumbersome process. But Fed tightening will make this story even more difficult.
And if the Fed does what it says it's going to do, there certainly is going to be an intermediate bear market in bonds. As a rough approximation, 10-year Treasuries, which already have gone up nearly 100 basis points to 2.5 percent, will probably rise another 100 basis points to 3.5 percent. That, in turn, is going to weigh down stock market valuations. And it could well have a negative impact on the economy.
I don't want to get too bearish with this scenario. In particular, I think American business is very healthy, with rising profits, substantial cash flow and pristine balance sheets. But again, if the Fed goes through with tapering and tightening, it is likely to damage stocks for a while -- despite rising profits.
Again, I'm not trying to paint a catastrophic picture. But I am suggesting that as the Fed tries to extricate itself from a balance-sheet-ballooning QE approach that I never favored, it won't find the process to be all that easy. And there will be market and economic consequences.
Wouldn't it be nice if the central bank weren't in this fix to begin with? Wouldn't it be great if the Fed were governed by a set of rules rather than constant Keynesian short-run tinkering?
Bernanke was certainly right in 2008 and 2009, when he went all-out with emergency Fed operations. But the absence of clear monetary rulemaking has undermined his credibility since then. Yes, the inflation rate is low at only 1 percent. That's good. But why doesn't the Fed pay attention to falling gold and commodity prices, which are throwing off deflationary signals? And why can't the Fed use a commodity market-price rule to guide it toward an appropriate nominal GDP target of 5 or 6 percent?
Well, the Fed hasn't done it. Instead it has thrown a lot of chips on the table. And removing those chips is not going to be easy.
Maybe I’m an economic ignoramus, but I grew up believing that paper assets represented tangible value. So, my question is this: during the climb of DJ averages to above 15,000 where was the true value behind those stocks being increased? Ditto for bonds?
Expanding markets and sales? Growth of manufacturing and services to meet customer demand?
I don’t think so.
Likely the bubble in prices was driven by the various QE gimmicks just to keep ahead of the inflation curve. Now that the end of QE has been foretold, no wonder there is retrenchment. But, don’t be fooled if QE actually continues to keep the bubble aloft. More dilution of value.
I disagree with Kudlow. It’s political and not economic.
The dems know that when the economy tanks they will get beat severely in the 2014 midterms. And if Bernanke ends his huge bond purchases a number of bad, bad things will happen.
1. Interest rates will rise. With a debt payment alone each year of 300 billion on our current debt, that will double or triple from its very low 2% or so right now. 600 billion will be the equivalent of the pentagon budget, and 900 billion will be the equivalent of social security and Medicaid. Try paying bills each year with the money spent on one of those 2 already spent just on interest payments. (Higher interest impacts big purchases, too.)
2. The stock market will nosedive. The Feds 85 billion purchases are what forces investors into the stock market because it’s the only place where money can be made. IOW, it’s artificially high and will crash.
3. House market will collapse. Mortgage rates will go back up to their historic rates of 6-8%. With wages decreasing and jobs dying, nobody will be buying.
4. Unemployment will surge higher. Higher interest rates will kill expansion along with obamacare killing expansion and holding down hiring. GOP amnesty will flood the market with illegals looking for jobs at the lowest rates. Maybe there’ll be a market for hovels.
5. Recession: all of the above will kill the economy.
So, will the dem party permit the Fed politically to cause all this without some kind of come-to-Jesus meeting behind closed doors?
My guess is that they’re already combing NSA records compiling Bernanke’s weaknesses. IT’s not a good time to be a relative of Ben Bernanke.
Kudlow should read your post!
Those that want to continue the charade ask Berneke,"But why doesn't the Fed pay attention to falling gold and commodity prices, which are throwing off deflationary signals?"
Berneke has been viewed as an expert on the depression. He believes the reason for the severity was the Fed tightening money access. As a result he has been pumping $85 billion/ month to keep access open.
The problem is that did not allow the essential problem of the economy to work itself out...DEBT.
Now he has maxed out the Fed balance sheet and knows must stop QE'ing. This means we are about to experience a deflationary economy similar to the great depression as households and businesses reduce their debt. When this happens where should your assets be placed? Equities...nope. Bonds...nope. I am going with cash. And you can call me economic ignoramus too.
“Maybe Im an economic ignoramus, but I grew up believing that paper assets represented tangible value”
Never was. Manipulation is what it is all about. Why would someone pay many times the value of a company in a stock price and call that “tangible”? For instance, an advertising agency. Maybe it is good at what it does and draws in revenue, but what is it really worth that is tangible? Maybe is has a building and some equipment, but that is all it has that is tangible. A manufacturing business at least usually has a factory that is tangible property. Everything else they have, that “profit potential”, is non-tangible.
Trading stocks is nothing more than trading fancy baseball cards. One player’s batting average increases and so does his popularity and the value of his baseball card. Same with companies: Something goes up and so does that trading card price. They don’t have to actually be worth more or provide more dividends, they only have to seem better and people pay more for the stock.
why would you go with cash?
Higher interest is money that would be a positive. A lot of it would be spent in local economies. Much of it would be saved for college or responsible house purchases with some downpayments.
The economy we have now just has the rich getting richer. I'd rather see an economy that works for us "little people" than one which exists for CEOs, bankers, and globalist elites further consolidate their power and control.
Think in terms of what occurs in a deflationary economy. The cost of production is higher than the market price of the good. We are already seeing this in the gold market recently. The progression is as follows:
1) Prices drop
2) Business can make ends meet
3) They lay off employees
4) Those employees no longer can buy goods
5) Businesses sell less goods
6) Prices fall farther
7) How do you capitalize in a deflationary economy? Be one of the few with no debt and cash to buy goods at a lower price.
Think in these terms. If you have a skill/good and no one else has cash, what is the value of that skill/good? 5 Chickens and a cow from farmer John or would you take cash so that you could purchase what specific needs you have? You would accept the cash most likely because with cash you can buy 5 chickens and a cow.
What price would you take for my cash? Would it be 100 cents on the $. No, because I am the only buyer of your good/skill with cash and I would not pay that amount for your good/skill unless no one else had it. So I would use my cash to buy it at a much lower price than today with an inflated value.
Sure, the value of the $ may be lower relative to other currencies, but the fact that many currencies peg against the $ the effect should be somewhat mitigated.
That means to be prepared for deflation, have cash.
You will hear screams, and I was one of them at one time, that we are going to be hit by inflation, but ask yourself this questions. As the Fed has pumped trillions of $ into the economy what have your seen happen to GDP? No growth of value. Where is the inflation? I have been waiting and thought gold was an indicator, but that price has been driven by political concerns not economic. There isn't any because the money injected has been just enough to keep us falling into a deflation situation. To keep our leaders from having to explain why we can't get out of a depression with their policy.
The announced end of QE'ing is the notice to all that this is last call. Get your drinks and make for the door.
But, I am an economic ignoramus.
Really? Cash as in fresh from the printing press with nothing to back its value? I bought 100 OZ of silver coins on Thursday at a little over $19 per oz. been waiting for it to get under $20 for years.
The money quote here comes from (I believe) Peter Schiff, who compared Bernanke's quandary with the situation in Japan over the last 25 years with this remarkable description of how the whole thing is constructed:
"Monetary policy was seen as a substitute for an actual economy."
1. The money that was injected into the economy isn't circulating very frequently these days, as businesses and consumers simply sit on the sidelines and defer purchases indefinitely.
2. QE3 was different than QE1 and QE2 in that it also involves the purchase of mortgage-backed securities by the Fed. This isn't "new money" at all. It's simply a case of the Fed acquiring MBS instruments that are probably filled with underperforming and worthless mortgages. These mortgages represent money that was created years ago.
You have pretty much hit it on the head. In a deflationary depression which is what we are spiralling down to cash is king. But gold and silver are always a good hedge especially in this dip. So is food.
In the things we need to live (gas,food education, health care, insurance...). Deflation in everything else (optional purchases).
I just feel metals overvalued at this time. Look at gold recently. As I said the value of the dollar will drop relative to precious metals, but greenback will still be worth something to those looking to trade and as most countries still pegged to $.
Just saw this on Drudge
Gold has fallen through production costs.
In support of 15.