General Central Bank Hospital And Market Crash Denied?
Sunday, November 02, 2014
Regarding the market, it’s complicated, indeed! If one is looking for that 10% correction, one already missed it because the S&P 500 (SPY) dropped 9.86% between the intraday high on September 19, Alibaba’s (BABA) party day, and the intraday low on October 15. Then one tuned to a news channel, any channel, and it seemed like everyone graduated from Stock Market Parrot University, adhering to the talking points and overusing the solemn delivery of information. Be creative, be bold, be funny! Or maybe it was depression due to Lindsay Lohan and the Kardashians not entertaining as much.
But then the market “corrected” again -- up, that is -- to the tune of 10.8% between the low of October 15 and the high of October 31, aptly defying the “top-is-in” callers. If it was that easy to call tops and bottoms and everything in between, the best hedge funds with their technological prowess, infinite resources and widely advertised experience, would deliver at least 100% returns without breaking a sweat. But shouldn’t prices correct, in the traditional sense of the word, and then stay down there for a while, unlike what just happened, with prices dropping over a period of 26 days and then regaining all losses in 16 days and hitting new records? Are we heading for a “correction” again? What kind?
All kidding aside and with the economic data ink barely dry as the market became a sad case of euphoria turned into despair, the timing was perfect as James Bullard, the president of the St. Louis Fed, opined that the end of QE could be delayed, although his projection for 3% GDP remained intact. Truly mesmerizing! Bullard was the quintessential frightened little kid seating in the front car and screaming as the roller coaster initiated the big drop, threatening the wealth effect which remains theory and hasn’t manifested itself. What is interesting is that Bullard is a hawk, no less, although I never understood why Fed members are either doves or hawks. Shouldn’t they be realists, and required to have had a real day job before they serve the masses?
Along comes the Fed’s latest statement and the phrase “significant underutilization of labor resources” in the September statement was replaced with “underutilization of labor resources,” and what appears to now be “insignificant underutilization” is the current assessment, although the labor force participation rate hasn’t improved. However, the term “considerable time,” as it relates to rate increases, was unchanged, and this game of semantics was enough to kick start the market again. Minneapolis Fed President, Narayana Kocherlakota, explained his dissenting vote, further providing a ray of hope that QE is not quite done, and Boston Fed President Eric Rosengren also weighed in and appeared disturbed by the stock market’s volatility, not the economy.
"Financial markets have been quite turbulent," Rosengren said. "I would remind you though that just a couple months ago we were talking about how little turbulence there was. It's going to take us a little time to fully process what exactly is the reason for the turbulence."
Take all the time you need, and putting the icing on the cake, San Francisco Fed President John Williams added the following.
If we really get a sustained, disinflationary forecast ... then I think moving back to additional asset purchases in a situation like that should be something we should seriously consider.
It looked like an Annual Fed Marathon although I don’t know who won! In addition, and in the midst of U.S. monetary and economic issues, there’s still an expectation that the European Central Bank will initiate it’s own QE, although there’s no clarity. Meanwhile, ECB’s banking stress tests should be taken with fifty grains of salt, for there are plenty of assumptions that are just that, assumptions, and many are hardly justified. But the tests are about building confidence, a public relations exercise, not actually finding real holes in the balance sheets. For that reason, fast forward and don’t waste a second detailing the shortcomings, although there’s a good article on the subject titled “The Stress Test Results Are In - And It's Trebles All Round!,” which adds a little comic relief.
Spain's banks are apparently a mere €30 million away from perfect health.
Mario Draghi could reach into his wallet and fix the Spanish banking system! He also indicated that even if the ECB was to adopt some unusual and illegal form of QE, the issues are far deeper, and reforms, a topic that surfaces every week but is never accomplished, are a part of the healing process. Merkel is still opposed to more spending, and her assertion that overextended countries should not be borrowing any more is quite amusing, and Germans are not known for being funny. How else will the bills be paid?
Laying out a four-pronged strategy, Draghi emphasized that monetary policy was only one part of an economic revival plan, with the others being reforms, sound public finances and healing the bloc's sick banks. But despite Draghi's firm words, the summit underscored how the euro zone has few quick fixes for near record unemployment, leaving it in search of billions of euros for spending that Berlin wants to see come from the private sector. Merkel said no country with a national debt greater than its economic output should be borrowing more, diplomats said.
Only a few days ago, there was a rumor from unnamed sources -- “unnamed” has become a Reuters favorite -- that QE from the ECB may be a weapon of mass construction after all.
The European Central Bank's plan to buy private sector assets may fall short of its goal and pressure is likely to build for bolder action early next year, with government bond purchases an option, ECB sources said.
Festering economic issues continue to spread on a global scale and, regardless of what some people say, have not abated, and I am certain that central bankers know it. If one didn’t notice, “Greek Bonds Extend Selloff, Pushing Yield Up Most in Two Years” as the market was reaching bottom. Greece? I thought that was old news! An eye opening opinion came from Guy Debelle, head of the BIS’s market committee, while pointing out that “investors have become far too complacent, wrongly believing that central banks can protect them.”
Mr Debelle, who is also chief of financial markets at Australia’s Reserve Bank, said any sell-off could be amplified because nominal interest rates are already zero across most of the industrial world. “That is a point we haven’t started from before. There are undoubtedly positions out there which are dependent on (close to) zero funding costs. When funding costs are no longer close to zero, these positions will blow up,” he said.
A recent ECB working paper (pdf) titled “Financial Fragility of Euro Area Households” stated that “we find that, the risks posed by the household sector to the stability of the financial system in the euro area are generally contained.” Yes, we do know that households in Europe are already stretched to the limits and may not be able to inflict much more damage, but didn't Bernanke tell us that the U.S. housing problem was contained before implosion? Now I feel confident! The original phrase “The economy, stupid" coined by James Carville, Bill Clinton’s campaign strategist, can be tweaked as follows: It’s the debt, stupid!
Now, there are those that see the end of QE as a propeller for the market, based on largely theoretically, questionable and mechanical reasons, while the message was clear that the slightest hint of monetary policy maintaining the status quo, and potentially expanding further, provided the relief that was needed. Was the lack of QE a market crash denier? One is free to believe whatever is out there! Furthermore pay close attention to the dollar index and how it catapulted by 7.5% since July. And will QE from the ECB, which will drop the euro and reinforce the perception of economic trouble, actually benefit the stock market? I shall say it again: It’s complicated!
Then GDP provided more insight into the American economy, and the one item that made me feel warm and fuzzy was defense spending, with comfort derived from the fact that we’re preparing for what is ahead! And GDP was so good that the 10-year treasury yield actually dropped on the day. Let’s take a look at the Mortgage Bankers Association’s house purchasing index only because that is purportedly a major focus of current monetary policy. People have always said that a picture is worth a thousand words, and the chart below speaks volumes.
Throw in the year-over-year S&P/Case-Shiller 20 City index and it makes sense. Simplicity and clarity trump everything.
What is lost in translation is that the Fed’s position -- rates, balance sheet, etc. -- is in itself a testament to our condition which is not getting better, and the somewhat safe assumption is that central banks -- Laurel and Hardy, or clumsy and pompous -- will say anything, not necessarily do anything, to keep stock markets afloat. The other question remaining? When does the 8-track tape get old and ceases to entertain our finicky needs for a prosperous future based on stock market winnings as a replacement for home equity losses that funded shiny automobiles and exotic vacations, mosquitoes and all? From some of the stuff I read, there are plenty of people tracking the market on their Apple (AAPL) devices and boasting about it, much like The Real Housewives of Japan of the late 1980s.
Lastly, the Bank of Japan, faced with ongoing negative trade balances that were not a feature during the well known and long deflationary years, went all in, ETFs included, and here’s the sentence that best illustrates the point:
For many overseas watchers, however, purchases of risk assets by a central bank means something is wrong.
General hospital is almost fully staffed, and awaiting China’s response to its own problems. There are plenty of arguments about the validity of the Dead Economists Society and ultimately they are exercises in futility, replete with impressive vocabulary that end up addressing nothing, while, in some camps, pushing political agendas through silly constructs. It’s like engaging in a shouting match about what color umbrella to wear when it hasn’t rained in 100 years, and we’ve been going at this for decades without a consensus or resolution. Oy vey! Here’s a simple question: After all the chest thumping, endless economic formulas and intriguing thoughts, and a presence at both elite political dinner tables, why are we where we are, economically speaking? These theories are eventually captured and bound into coffee-table books whose only purpose is to adorn, and although they are not entirely at fault, in the end all central bankers will retire, hit the speech circuit, and leave the mess to us.
Maybe Halloween 2014 (it rhymes) will be a day to remember and will live in infamy as the frightening day when the BOJ admitted that we’re so deep in the economic swamp that infinite QE, even if fed intravenously, is the only way out and the only hope to keep our way of life undisturbed. Not everything goes by unnoticed! John Denver’s “Rhymes and Reasons” provides the appropriate lyrics, and a sense of humor is always the best sedative.
So you speak to me of sadness and the coming of the winter,
The fear that is within you now that seems to never end,
and the dreams that have escaped you and the hope that you’ve forgotten,
and you tell me that you need me now and you want to be my friend,
and you wonder where we’re going, where’s the rhyme and where’s the reason?
On the lighter side, elections are upon us again, and the traditional party power swing appears to be in motion only because we can only choose from a menu with two items, for practical reasons, even if both dishes leave a lot to be desired. On that topic, I met an extremely attractive and, more importantly, well informed and intelligent lady, not a babbling doll with blowfish lips and climate changing silicone stuffers, and after a very pleasant conversation she revealed that she was in the adult entertainment industry, although she failed to elaborate. I simply told her that I never would have guessed in a million years that she was in politics. Dinner and a documentary?