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"I guess I should warn you. If I
turn out to be particularly clear, you've probably misunderstood what I've
said," Fed chief "Easy "Al" Greenspan used to say.
Recognizing the fact that financial markets place a heavy value on each of
their words, former Fed chiefs Arthur Burns and Paul Volcker, were known for
blowing smoke, both literally and figuratively, when appearing before
Congress, in order to prevent their words from becoming self
fulfilling prophesies. They developed a language called
"Fed-speak," which is the use of ambiguous and cautious statements
that are purposefully made to obscure the meaning of a statement. Greenspan
is credited with turning Fed-speak into a "fine-art" form.
Having served for six presidents in
four different jobs, Greenspan became one of the most entrenched and powerful
figures in Washington. He was a shrewd political operator, a man who was
handed his job by political allies in exchange for political loyalty.
Greenspan used to hold his cards very tight. The secret meetings he held with
presidents and the secret deals he offered them only added to his mystique.
By custom, Greenspan could overrule the other Fed governors, which meant that
he controlled a critical portion of the world's money supply, and he could
use this leverage to influence public opinion ahead of an election.
On June 7th, Greenspan's
protégé, - Fed chief Ben "Bubbles" Bernanke spoke to
a congressional panel, and traders were listening carefully to his every
word, trying to discern if the Fed would unleash QE-3 ahead of the upcoming
elections set for Nov 6th. The Fed could pump-up the money supply, and buy
more Treasury bonds and in turn, jolt the stock market sharply higher. In
theory, a stock market rally could boost consumer confidence, and influence
American public opinion into thinking that an economic recovery is on the
horizon.
"As always, the Federal Reserve
remains prepared to take action as needed to protect the US financial system
and the economy in the event that financial stresses escalate," Bernanke
told the Joint Economic Committee. That suggested the Fed would only unleash
the nuclear option - "quantitative easing," (QE), if (1) Greece
opted to leave the Euro, or (2) if European politicians failed to hook-up the
zombie banks in Italy and Spain on artificial life support.
If neither of these "Black
Swan" events were to occur, - then in the opinion of Global Money
Trends, the Fed is expected to stay politically neutral ahead of the Nov 6th
elections, and abstain from a third round of QE. Staying neutral could
include a token gesture to extend the Fed's "Zero Interest Rate
Policy" (ZIRP) beyond 2014. Extending "Operation Twist," in
which the Fed sells short-term notes and swaps into longer-term bonds, would
help keep bond yields submerged at artificially low levels. However, neither
of these token gestures would materially increase the money supply, which is
what Wall Street and Gold Bugs are thirsting for.
Bernanke did say to a skeptical
Republican that QE-3 could inflate the value of the stock market "and
therefore increase wealth effects for consumers in order to spur more
spending." That's a dubious claim, since the top-10% of the richest
Americans control 80% of the listed shares on the NYSE and Nasdaq. Only the wealthiest Americans benefit from QE.
The rest of the US-population gets stuck with payer higher gasoline prices at
the pump with QE.
However, Bernanke did pour some cold
water on the simmering speculation over QE-3, "There may be some
diminishing returns to further (QE) action. I'd be much more comfortable if
Congress would take some of the burden from us," he said. Republicans at
the hearing were quick to criticize the Fed chief, saying that QE-3 would be
tantamount to spiking the punch bowl in order to help the Democrats and
President Barack Obama, ahead of the upcoming Nov 6th elections. "I wish
you would take QE-3 off the table," said Texas Rep. Kevin Brady, the
ranking Republican on the committee. "I wish you would look the markets
in the eye and say that the Fed has done too much," he added.
The month of May and the first week
of June were brutal for President Barack Obama. Government apparatchiks said
that the US-economy grew at a sluggish +1.9% annual rate in the first quarter
of 2012. Worse yet, the US-economy which created an average of 226,000 jobs
per month in the first quarter, only created an average of 73,000 in April
and May. Alarmed by the ominously weak US-jobs report, the Dow Jones
industrial nosedived on June 1st, plunging 275-points lower, its biggest
daily loss since last November. The sudden selloff towards the 12,000-level
wiped out the Dow's gains for the year. Also signaling fears of a recession,
the yield on the 10-year Treasury note fell below 1.50%, a record low.
Likewise, on-line bettors at
Intrade.com, lowered the odds of Obama winning his re-election bid to 53.5%
on June 10th, - down from a 60% chance on May 1st. Conversely, for the Republican
challenger, Mitt Romney, his odds of winning the presidency increased to
43.1%, compared with 37.4% at the beginning of May. Apparently, bettors at
Intrade.com think the outcome of the Nov 6th election will hinge upon the
value of the US-stock market in the months ahead. However, there's a big
disconnect between the value of the US-stock market, and the health of the
US-economy. The S&P-500 index has doubled from its March 2009, amid the
weakest economy recovery since the Great Depression. Instead, the boom in the
stock market, has only served to widen the gulf between the rich and the poor
in America, where the number of food stamp recipients has doubled since 2008.
Given the political realities in
Washington, - bond dealers on Wall Street that deal directly
with the Fed are equally split on the likelihood of QE-3. Those
betting on QE-3, think the Fed would unveil a $500-billion printing spree at
its upcoming June 19th meeting. The other half thinks the Fed would stay
politically neutral, and opt for extending Operation Twist. The stakes are
high. Without the artificial life support of QE-3, the US-stock market could
sink ahead of the upcoming election and torpedo Mr
Obama's chances. On the other hand, a $500-billion printing operation could
lift the Dow Industrials above the May 1st highs, and tilt public opinion in
favor of the president, over his Republican challenger.
Mr Romney
has already sent a public warning to the Fed, to keep its hands off the money
printing press between now and Election Day. Romney told CNBC on June 1st,
that the Fed's actions to boost the economic recovery have "really run
their course." "QE-2 was not able to yield the economic benefit
which they hoped it would be able to yield. I don't think we're looking for more.
A QE-3 if you will, I don't think that will have any more impact than QE-2
did. The central bank should focus just on keeping prices stable,"
Romney added.
During the GOP presidential debate on
Sept 7, 2011, Former House Speaker Newt Gingrich was asked if he would reappoint
Ben Bernanke to run the Fed. He answered, "I would fire him tomorrow. I
think he's been the most inflationary, dangerous, and power-centered chairman
of the Fed in the history of the Fed. I think the Fed should be audited. I
think the amount of money that he has shifted around in secret, with no
responsibility and no accountability, no transparency, is absolutely
antithetical to a free society," Gingrich said.
Romney concurred. "I'd be
looking for somebody new. I think Ben Bernanke has overinflated the amount of
currency that he's created. QE-2 did not work. It did not get Americans back
to work. It did not get the economy going again. We're growing now at
1-½%," Romney said. Thus, the Fed chief must consider that he
would certainly lose his job, if he takes the risk of launching QE-3, - and
Obama loses the election. Worse yet, if Romney wins, many Tea Party
Republicans could push for a full fledged
investigation into the Fed's secret dealings over the past few years,
including trillions of dollars of loans to the Wall Street banking Oligarchs.
There could be an audit of the Fed's secret intervention tactics. The Fed
could be stripped of its dual mandate, and left with a single goal of
fighting inflation. For these reasons, the Fed is likely to vote against
the risk of launching QE-3.
Still, many gunslingers in the Dow
Jones industrials futures markets, are betting heavily on the unveiling of
QE-3. The Dow finished +3.6% higher at 12,554 last week, - a remarkable feat.
That puts the Dow +150-points above the level that prevailed just prior to
the lousy June 1st jobs report. It seems as though economic data has a shelf
life of only 24-hours, before it's etched-a-sketched away from the memory of
psychotic traders. The Dow's gains were accompanied by signs of a stabilizing
Euro, on ideas that Europe's political elite, would rescue the zombie banks
in Spain. However, while the zombie banks can exist on artificial life, as
zombies, they will hoard their cash, and would be very reluctant to lend to
worthy borrowers, thus prolonging the Euro-zone's ongoing recession. Still,
the recession in Europe is of little concern for hallucinogenic Bulls,
anxiously awaiting their QE-3 fix.
However, US-retail investors were
fleeing stock mutual funds for 14 straight weeks. They've yanked $46-billion
out of the market since the start of the year. Just 53% of US-households
owned any stocks in April, the lowest since 1998. As such, the average daily
trading volume in US stocks on all exchanges has shrunk to 6.5-billion in
April, compared with 12.1-billion at its peak in 2008. Whose left are
high-speed trading firms, which now account for as much as two-thirds of all
the volume on the stock markets . Yet high frequency
traders are mostly scalpers, seeking to pocket a few pennies or $1 per share
during the day. The rest of the players are money managers for high net worth
individuals, hedge fund traders, mutual funds, and agents of the "Plunge
Protection Team." In thinly trade markets, the actions of a few big
players can have bigger impacts on the market's increasingly strange
behavior.
There is growing suspicion that the
"President's Working Group," otherwise known as the "Plunge
Protection Team" is covertly intervening in stock index derivatives, on
a daily basis, in order to place a safety net under the market, when risky
bets go sour. For the past 15-years, traders have relied on the "Greenspan
and Bernanke Put" to bail them out of tough situations. The Fed has a
long history of springing into action to inject liquidity into the money
markets, or "Jawboning" timely messages to the financial media,
aiming to prevent the emergence of steep corrections on Wall Street that if
left unchecked, could snowball into an outright Bear market, and plunge the
US-economy into a nasty recession.
The "invisible hand of the
Fed" causes short squeezes that lead to the sudden emergence of
"miracle rallies," that defy logic. This conspiracy theory isn't
based upon hard evidence, that's known to the public. Instead, it's supported
by a "negative proof," or rather, the law of improbability. For
instance, on June 6th, the Dow Jones Industrials surged +286- points to close
at 12,414, its biggest gain of the year. The rally started early and gathered
force in the final hour of trading, as short sellers scrambled for cover. The
outsized gain had more than erased the biggest loss of the year: the
-275-point plunge set off just a few days earlier. One floor trader was
quoted by the media as saying, "In market language, it's called a
technical bounce. There's no bad news today, so the market goes up. Frankly,
it's that simple." Such an improbable explanation however, keeps
conspiracy theories of Fed intervention alive.
Likewise, on June 12th, the Dow
staged its second biggest rally of the year, shooting up +162-points, and
erasing a big -142-point decline from the previous day. The big rally on Wall
Street was highly improbable, because in the background, the yield on Spain's
10-year bond jumped to as high as 6.81%, and up more that 60-basis point
since a €100-billion bailout of Spain's banks was announced. At 7%, big
debtor nations are pushed to the brink of default. Yet the negative news was
ignored and the US-stock market surged higher anyway. Chalk that outsized
rally up to big bets on the launching of QE-3, or what Wall Street analysts
like to call, "value investing" in the world's biggest casino.
The past year was very tumultuous for
stock markets around the world. Yet the S&P-500 index has managed to defy
the law of gravity, by posting a +3.5% gain from a year ago, while most of
the world's markets tumbled, - succumbing to the turmoil that's roiling
Europe. Compared with a year ago, Brazil's Bovespa
has lost -32%, Germany's DAX-30 index is -24% lower, the Toronto Stock
Exchange is -16.5% lower, Korea's Kospi index has
lost -16%, Hong Kong's Hang Seng index fell -15.8%,
and Japan's Nikkei-225 is -11%. Even the Footsie-100, the Siamese twin of the
Dow Industrials is trading -5% lower from a year ago.
The S&P-500's superior
performance is surprising, considering a quarter of its companies' revenues
come from Europe! Moreover, a stronger US-dollar translates into weaker
earnings for US-Multi-Nationals that earn 45% of revenues overseas. Yet the
S&P-500 index is outperforming its foreign rivals. Is one company - Apple
Inc is responsible for the S&P-500's supremacy
in world markets? Most likely, the Fed is juicing-up the stock market, while
central bankers in other countries are not playing that game.
On Aug 17th, 2011, two Fed chiefs
said they're opposed to efforts of trying to prop-up the stock market.
Philadelphia Fed chief Charles Plosser said
"taking action after stocks have tumbled, signals that we are in the
business of supporting the stock market." Likewise, Dallas Fed chief,
Richard Fisher warned that the Fed "should never enact such asymmetric
policies to protect stock market traders and investors. Some traders might
view the easing of monetary policy as a "Bernanke Put," or the idea
that the central bank will loosen credit after a stock-market decline,"
Fisher said. Fed intervention can buy some precious time for the White House,
by placing safety nets under the market. Yet it would require a blast of
nuclear QE-3 to lift the US-stock market to new heights and extend its
3-¼ year Bull Run.
Commodities hurt by Weaker Euro, Slowdown in China
The Continuous Commodity Index, (CCI)
measuring an equally weighted basket of 17-commodities, has been caught in
the grip of a year long slide. Its value is -21%
lower than a year ago. The deepening recession in the Euro-zone, and a
slowdown in the Chinese economy is blamed for undercutting the demand for
industrial commodities, such as copper, iron ore, rubber, steel, and crude
oil. There were big losses in the soft agricultural markets, for cocoa, coffee,
and sugar.
In a strange twist of fate, the
US-dollar has been getting stronger against the second most actively traded
currency, - the Euro, by default, or by virtue of the fact that it looks less
ugly than the Euro currency. In turn, a stronger US$ against the Euro is
exerting selling pressure on a wide array of commodities. Some of the biggest
casualties in the commodities markets have lost as much as half of their
value from their peak levels of 2011. The price of cotton and natural gas are
-53% lower than a year ago. Coffee is -41% lower, rubber is -34% lower, corn
is -26% lower, sugar and silver are both -21% lower, and wheat is -18% lower.
The wholesale price of unleaded gasoline is -12% cheaper than a year ago.
Virtually all of the top exchange
traded commodities are lower in price than a year ago, with the exception of
live cattle, up +16%, and Gold and soybeans that have scratched out gains of
+5% from a year ago. In turn, there's been an unwinding of inflationary
pressures worldwide. In Emerging nations, where commodities account for most
of the consumer price basket, the drop in commodity prices could knock the
official inflation rate to zero-percent by year's end. In order to reverse
the deflationary trend in commodities, it would require another big blast of
QE from the Fed, which in turn, would flood the world with cheaper
US-dollars.
In the past, China's finance ministry
has complained about the Fed's QE money printing operations. At a G-20
meeting in South Korea on Oct 26, 2010, Chinese Finance Minister Xie Xuren said that
"issuers of major reserve currencies" -- code words for the United
States - "must follow responsible economic policies." "Because
the US's issuance of dollars is out of control and international commodity
prices are continuing to rise, China is being attacked by imported inflation.
The uncertainties of this are causing big problems. If other countries allow
their currencies to appreciate freely against the US-dollar, then their
exports will deteriorate. If they maintain rigid exchange rates against the
dollar, their central banks will have to buy more dollars on the foreign
exchange market, and this will increase liquidity in their own currencies,
and further inflate commodity and stock prices," he warned.
Soon after Chinese Finance Minister Xie Xuren issued his warning to
Washington, the People's Bank of China (PBoC) began
to embark on a tightening campaign, which included five rate hikes, lifting
its 1-year loan rate to 6.56%, in order to offset the inflationary effects of
higher commodity prices, that were fueled by the Fed's $600-billion QE-2
scheme. China's inflation quickened to a 3-year high of +6.4% in June 2011,
and factory prices were +7.5% higher in July 2011. China 's
inflation was boosted by rising food costs, which soared +14.4% in the year
through June . Pork, a staple meat for Chinese and the most closely watched
commodity shot up +65% from a year earlier. Beijing is especially sensitive
to rising food and energy prices that might stir social unrest and threaten
its leadership.
As fate would have it, the PBoC's last rate hike to 6.56% in July 2011, coincided
with the completion of the Fed's QE-2 money printing operation. Since then,
the global commodity rally began to sputter out, as QE addicts were forced to
go cold turkey. As Europe sank into recession, commodity markets fell into a year long slide. In China, the producer price index has
gone into negative territory, and was -1.4% lower in May compared with a year
earlier. With a negative inflation rate, there's less incentive for Chinese
traders to buy Gold.
Last week, on June 7th, the PBoC lowered its one-year loan rate 25-bps to 6.31%,
confident that inflation pressures would stay tame. The PBOC also lowered the
required reserve ratio (RRR) for the biggest banks by 150-basis points to 20%
in three moves since November. That has freed an estimated 1.2-trillion yuan ($190-billion) of fresh liquidity into the Shanghai
money markets. So far, the liquidity injections haven't led to higher prices
for commodities or the Shanghai red-chips market. Instead, turmoil in the Euro-zone,
the slowdown in China's economy, and a weaker Euro have kept commodity
markets under siege.
Euro Currency Crisis weakens Commodities
The initial knee-jerk reaction to the
EU's €100-bailout of Spain's troubled banks was one of euphoria and
relief. However, it only took a few hours before the alarm bells began to
ring over the mushrooming size of Spain's public debt. In Madrid, Spain 's 10-year bond yield hit 6.83% on June 12th, edging
closer to the 7% danger level that triggered bailouts for the governments of
Greece, Ireland, and Portugal. There are also lingering worries that Greek
voters might opt to throw off the yoke of EU austerity, and default on
€423-billion of debts to foreign lenders .
The €100-billion bailout might
prevent the collapse of the Spanish banks, unless depositors make another
major run on the banks. Jittery depositors withdrew €66-billion from
Spanish banks in April. However, the bailout would add to Spain's debt pile,
taking it +10% higher to 90% of the country's GDP. And that's not good news,
for anyone holding Spanish bonds.If the bailout
comes from the ESM, rather than the EFSF, then the €100-billion debt
incurred would be senior to Spanish government bonds. This means that
existing government bonds already trading on the secondary market, would
become junior bonds, to the ESM loans, and would lose value. Furthermore,
owners of subordinated Spanish bank bonds could be forced into taking a big
haircut. That could trigger another flight from the Euro.
The sovereign debt crisis in Italy
and Spain is exerting downward pressure on the Euro versus the US$, which in
turn, is weakening commodity prices. And matters for the Euro-zone are much
worse that politicians are willing to admit. On May 29th, the Egan-Jones
Ratings agency lowered its sovereign credit rating of Spain to single-B from
BB-, citing the country's deteriorating economic outlook. "The nation's 9.6%
budget deficit, 24% jobless rate and bank losses of as much as
€260-billion weigh on the economy . Spain will
inevitably be faced with payments to support a portion of its banking sector
and for its weaker provinces. The assets of Spain's largest two banks exceed
its GDP. We are slipping our rating to 'B'; watch for more requests for
support from the banks and money creation," Egan Jones warned.
Indeed, foreign investors cut their
holdings of Spanish debt to 37% of the total in circulation in April from 50%
at the end of last year. However, Spanish banks were very active players in
the ECB's 3-year loan program, having borrowed €300-billion. And much
of that money was used to buy Spanish government bonds. As a result Spanish
banks now own about 67%, of the government's debt. Now that those bonds are
plummeting in value -- prices fall as yields rise -- Spain's banks and
government are chasing each other in a financial tailspin. Among the largest
holders of Spanish bonds are the country's international banking giants
Santander and BBVA, which, through February, owned €60-billion and
€49-billion, respectively.
Italian banks were also enthusiastic
buyers of government's bonds - they own 57% of Italy's €2-trillion of
bonds outstanding . As in the case of Spain,
foreigners have been obliging sellers having dumped €242-billion worth
of bonds to local Italian banks, and whittling their share of Italian bond
outstanding to 35% as of March compared with 51% late last year. Bond traders
figure that Italy would be next in line for a bailout, because of its 120%
debt to GDP ratio and its shrinking economy, despite reforms initiated by
Prime Minister Mario Monti. Yields on Italy's
10-year note jumped to 6.17% today, up from as low as 5.66% last week.
Gold Bugs betting Big on QE-3
So far this year, Gold has largely
been held hostage to the gyrations of the broader commodity indexes. However,
on June 1st, the price of Gold suddenly surged spectacularly higher,
following the dismal US-jobs report. Hedge fund traders figured that the weak
jobs report would be the smoking gun that pushes the Fed into launching QE-3
at the upcoming June 19th meeting. The price of Gold soared $80 /oz higher, above its intra-day low on June 1st, before
settling at $1,625 /oz. However, on June 7th, Fed chief Bernanke stayed
silent on the topic of QE-3. Gold quickly plunged $40 /oz
within a few minutes, and skidded to as low as $1,561 /oz,
before strong hand buyers stepped in.
Seeking shelter from the Italian and
Spanish bond markets, many global investors shifted from Euros and into Gold,
especially when the yellow metal found solid support at the $1,540 /oz level in the month of May. The slide to $1,540 equaled
a -20% correction from Gold's all-time high set in August of 2011. Thus, Gold
fell to the threshold of a bona-fide Bear market, but escaped the claws of
the grizzly bear. The Gold market has since rebounded for a second time
towards overhead resistance seen at the $1,630 /oz
area, buoyed by big bets that the Fed would vote to launch QE-3 at its
upcoming meeting. A $500-billion blast of nuclear QE-3 would weaken the value
of the US-dollar and in turn, boost commodity prices. QE-3 could signal the
end of the deflationary trend that been plaguing commodities, and signal the
beginning of an intermediate rally in the Gold market, that could be
sustainable.
However, in the opinion of the Global
Money Trends newsletter, - the Fed is trapped in a political minefield, and
won't offend the Republican Party. Therefore, the Fed is expected to stay
politically neutral ahead of the Nov 6th elections, and leave QE-3 on the
back burner (assuming Greece does not exit the Euro). If correct, it would be
difficult for a Gold rally to gain traction. Barring a shift to QE-3, other
possibilities that could lift Gold higher are "Black Swan" events,
such as a Euro currency crisis, that's trigged by Greece's Far-Left, or a
surprise military attack on Iran's nuclear facilities this summer. The good
news for Gold Bugs is that a sustainable bottom for the yellow metal appears
to be firmly in place.
Gary Dorsch
Editor, Global Money Trends
www.sirchartsalot.com
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