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Chris Martenson Answers How Long The Party In Stocks Can Last
Submitted by Chris Martenson
How long can the party in stocks last?
The headlines are screaming at the top of every financial media outlet tonight: The Dow Closes Above 12,000 For the First Time in Two Years!
What's going on here? Is the recovery well and truly underway? And, if it is, why is the Fed dropping hints again that "QE3 may get discussed" at future Fed meetings, as Kansas City Fed President Thomas Hoenig said on Feb 1st?
Given the raft of good economic news lately, one might be forgiven for wondering what the Fed has in mind here. If everything is so economically rosy, why are they already dropping trial balloons about more Quantitative Easing? What are they seeing that we are not seeing, that justifies more than $100 billion in thin air money each month, and why won't they just tell us what it is?
Here's how ChrisMartenson.com member dbworld put it earlier today:
I thought I heard CNBC state the other day that there was seen an inflow into the US Equities market which hasn't been seen in a while. I didn't catch the details, but I'm hoping that Chris has a read on this and an explanation on why the US stock market is so strong.
While it's true that retail investors have only very recently begun moving more money into stock funds than they have been removing, reversing a 33-month-long outflow, this is focusing on the wrong element in the equation. Retail investors provide only a minor amount of the rocket fuel used to elevate the stock market over the past several months.
Look at the amounts here, and also pay attention to the timeframe:
Over a 36 week period spanning from May 2010 to the end of January 2011, there was only one instance of 'investors' putting more money into stock mutual funds than they withdrew, and that one ,outlier was well under a billion dollars. Over that 36 week period, over $100 billion was removed from the markets by investors. Even when money started moving back in over the past two weeks, I want you to note the scale; the combined total is $6.7 billion. Keep that figure in mind.
Instead, we should first focus on the massive injections of raw, potent, thin-air money (a.k.a. "credit easing") by the Fed into the financial system. Sometimes this is referred to as "liquidity," which it is. But that's too narrow a definition, because it is much more; it also happens to be high-powered base money (a.k.a. 'Wall Street rocket fuel').
Here's the stock market story over the past eight months:
Note that QE II began in early November of 2010 and that the stock market is up 20% since the end of August.
As an aside, I used to track the Fed's thin-air money programs very closely, and if you had told me as recently as three years ago that the Fed would have been running 11-figure POMO operations each and every month, I would have told you it was unthinkably impossible. But here we are, that is exactly what is happening, and I am largely numb to the process, which worries me somewhat, as it means that my baseline has shifted.
At any rate, the point here is that from those August lows to now, retail investors have taken out far more money from the stock market than they've placed back in; a total of around minus $38 billion.
But over that same period, the Fed has placed nearly an entire order-of-magnitude more thin-air money, some $350 billion dollars, into the hands of financial institutions, some of whom consider the stock market their personal playground.
Here's a chart of the cumulative POMOs by the Fed from the end of August 2010 to now:
Should we consider the injection of more than a third of a trillion dollars and a stock market that is up by 20% to be a coincidence? No, not in the least. The stock market has become, if anything, a liquidity gauge first and a discounting machine second. The fundamental that matters most is how much money is flowing into the machine.
So it is my view that the trillions of dollars of thin-air money and deficit spending are finally finding their mark (asset prices) and doing their work, just as I predicted they would. Where some called for deflation to be the irresistible force that would drag us all down, I've consistently leaned towards the side of inflation. Although, to be fair, I have always hedged that view somewhat, with a 70/30 split held for nearly 5 years that was recently amended to 80/20 (in 2010 shortly after QE II was announced).
On a Tear
Unfortunately for the rest of the world it's not simply the stock market that is the lucky beneficiary of all this Fed largess. Thin-air money, once released into the wild, tends to have a mind of its own.
Commodities are now setting new records almost daily. Where the stock markets still have some catching up to do, commodities are exploring virgin territory.
This is serious business, folks. The future is not going to arrive 'someday.' For the billions of people who spend a huge portion of their income on food and fuel, it has already arrived.
Looking at the above chart of the past 12 months, what we see is that everything, from metals to stocks to bonds to grains to energy, has experienced profound price increases. That pretty much covers everything you need to live on and the bulk of the paper universe. Such a chart is a historical rarity for any one country, yet it currently happens to apply to the entire world. You are living in historic times, which certainly belabors the obvious.
Your Lying Eyes
On the flip side, the story we are being told almost daily is that inflation is very low -- too low, even -- in a worrisome sort of way. I am reminded here of an old Richard Prior skit where his wife walks in on him in bed with another woman. To her increasing agitation, he denies that he has been cheating on her, finally shouting, "Who are you going to believe, woman? Me, or your lying eyes!?"
Well, my lying eyes see something very different in that chart above from what I am being told; instead of worryingly low inflation, I see rapidly rising inflation that is very close to slipping out of control.
I spend as much time on this subject as I do because the decisions you make based on whether you are protecting yourself from inflation vs. deflation are as different as to whether you grab an anvil or a life raft on your way out the door when facing an emergency.
I do my best to let the data do the talking, and right now it is saying inflation.
How long will it last?
The old saying is, Don't fight the Fed. That's good advice. I have dutifully been following the developing story by watching what the Fed does, not what it says, and by letting prices tell me which way the wind is blowing. It's a regrettable position to be in, because it's nearly impossible to make any long-range plans when you have no idea what the Fed is going to do next. But here we are.
How long the stock market rally will last is therefore unknowable, but stocks and bonds and commodities will remain elevated in price for as long as the Fed continues to dump hundreds of billions of thin-air money into the markets. The only problem is that there's no clear exit strategy for the Fed.
Putting money into the markets is a very easy thing for the Fed to do. Letting rope let out under full sail is easy; tugging it back in is difficult.
The Fed faces a similar asymmetry. Market participants are always eager to take fresh money hot off the press. An infinite number of things can be done with that money almost instantly. But coming up with money to give back to the Fed for Treasury of MBS paper? All sorts of difficulties arise.
"Wait, we'd have to sell a lot of things to free up that kind money and what, exactly, are you proposing to hand us in return? Treasuries? Um, no thanks, not right now. Agency debt? Uh, no, that doesn't fit our portfolio needs right now either. Perhaps next week?"
Further, when the Fed goes to get its money back from the marketplace, that action will drain liquidity, creating ripples throughout all sorts of markets, especially and including knocking the stock market down. Very few people complain about adding thin-air money; a crowd roars its disapproval for the reverse.
Too Late
The bottom line is that by the time the Fed becomes institutionally aware that inflation is raging across the globe - and I often wonder when they'll finally awake to the threat - it will be too late. Inflation will have the momentum, and it will take a vast overreaction on the part of the Fed to restrain it. They'd have to drain enormous amounts of liquidity and tolerate vastly higher interest rates to be able to do that, and I doubt they have the courage for such bold action. I think they will hesitate, equivocate, and ultimately be late.
History suggests that inflation is best tamed early, but the Fed is already late and demonstrating a remarkable callousness by doing the exact opposite of fighting inflation. While we cannot know what it is that the Fed sees, or which demons it is fighting that provide the internal rationalization for risking a hyperinflationary outcome, we can only conclude that these threats are more spectacular than the alternatives.
Unfortunately, these events conform to the main themes that I have been writing and advising about for the past several years. Sadly, they are not a surprise at all; the only mystery to me so far is how they have managed to carry on as long as they have.
Events of the past few weeks - unrest in Tunisa/Egypt/Jordan, skyrocketing food prices, Dow cracking a 2-year high, dropping dollar with rising bond yields - make me even more confident in the conclusions of my recent report on How This Will All End (published January 12) in which I derive a calculated estimate of when a final fiscal deterioration will overwhelm even the best of intentions. While the money-printing-induced high we're currently on may feel fun today, the unavoidable inflationary smackdown we'll experience tomorrow most certainly will not.
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I like your analogy to losing some national asset with each passing crisis. A round is fired each time, but this time we may be out of "American Dream" bullets. Throwing the empty gun at Superman was a pitiful and futile move. Filling the empty revolver with fiat currency is laughable.
"For example, can anyone imagine today two of the sons of a wealthy, politically connected, Washington-insider family seeking out combatant positions. One was killed after volunteering for a (virtual) suicide mission. The other was almost killed and suffered permanent injury in combat. Obviously, this was the Kennedy's. Not my favorite family but compare the young Kennedy's of today to those of 70 years ago."
Joe Kennedy would gladly have sacrificed all his sons to redeem his reputation, after backing Hitler before the US entered the war.
Imagine That! The Kennedy's AND the Bushes having supported Hitler! So much for the Dems and Republicans!
And then there was the Kochs supporting Stalin. Well, there goes the Tea Party!
What the heck is going on in natural gas? New York City Gas Spot down 16% yesterday alone.
Big fish flopping around. Money getting sloshed over to another higher-returning commodity. Hang in there, before too long it'll be going back up again. And on and on and on it will go... NOTE: this is why Iraq was invaded, to have control over prices, to keep oil prices stabilized (nothing new- a good reference is Texas Railroad Commission). Variability in a precision system is NOT a good combination: something's going to give.
There is a silliness and lack of understanding of basic economics to this post. Inflation is too much money chasing too few goods. Now can anyone with a straight face say that exists today? If you can, you are a clown and you don't understand anything about agricultural stocks or energy stocks. Stocks meaning supply not the financial term of stocks.
What we have is too much money chasing too few PAPER assets in the commodities market place. And I can prove it surely as can Zero Hedge. This is NOT inflation. It's what Enron did to rig the California energy markets. It's F-R-A-U-D caused by Wall Street crooks enabled by Bernanke the crook.
Even if it's fraud, that still doesn't mean that the disease doesn't exist. And that disease is that there isn't enough REAL physical resources to support the future based on growth projections (I'd state that NO growth is possible w/o long-term consequences).
The Fed, maybe we should nickname them Clownron?
I agree with the fact that we need to restrain our gubberment as a bus load of drunken monkeys makes far more sense than they do however, here's a rub I have with the above:
Banks can borrow at next to zero and use prop desks to go play in the market, why not right. Well, they are largely responsible for the run away speculation in commodities along with hedgies etc. So, if you have high unemployment, no wage inflation at all, it's fundamentally impossible to have inflation sans wages. Just remembering college days...
2007, oil hit 150 per barrel, then crashed. Why? Well, it wasn't global demand that drove oil up into the stratosphere, it was speculation. When you killed the consumer by removing any equity they had in their home, they we're forced to stop spending etc. which in turn throttled oil in the end. The same is going to happen with all these agri commodities someday, watch...dollar will catch a bid, commodites are going to ass hammer bazillions of people and it will be back to reality, deflation.
"What are they seeing that we are not seeing, that justifies more than $100 billion in thin air money each month, and why won't they just tell us what it is?"
Simple, it's called Japanafication...the new U.S.. Housing is going to continue to get creeked and unemployment will continue to rise if this happens, in the end there won't be inflation when oil is at $30 and there's no Hollisters to buy up all that overpriced cotton.
We can stop buying Chinese junk, stop travel by car to save gas, but we can't stop eating.
The closer we get to having to buy basic foodstuffs (flour, corn meal, raw rice, etc.) the more we will be paying (on a percentage of income basis) for food. This is the dilemma of the lesser developed countries.
right but food can stop traveling 1000 miles on avg just so everybody can pick whatever they want at any store...
Hm... Food, Shelter and Water... The REAL fundamentals! And, since I suck at carpentry, and have no clue how to make a living off of water, I've opted to go into farming (I can always eat my product).
+1 EQ
I see a lot of doomers posting here. I am also reasonably prepared, but don't overweight my portfolio toward doomsterism. I do agree with the writer that the fed must be seeing some really big demons out there to keep going the way they are with liquidity. We at zero hedge are just groping around blindly and picking up a few pieces of data and making up our minds that the fed doesn't know what it is doing. The fed has the most comprehensive data set of anyone in the world. They can do complex calculations that we don't have time for even if we had the money to collect all the data. The fed sees something huge out there. I think it is the deflation monster. A little stagflation is a small price to pay to keep him away. The fed sees corporate profits as a percent of gdp has to go down and potentially stocks topping out for a while. There is still a lot of net deleveraging going on whether voluntarily or involuntarily. Our bank capital base is built upon assets that can't be marked to market. The next deflationary downdraft may be the one that kills us, but I doubt it, because the Fed will monetize everything if necessary to avoid it. They will put a bid on dingleberries if necessary.
"The next deflationary downdraft may be the one that kills us, but I doubt it, because the Fed will monetize everything if necessary to avoid it."
If it's really all that powerful then perhaps the US should be going into battle waving dollar bills? (on a non-sarcastic note, this might actually be more rational than trying to win hearts and minds by blowing them up with REAL bombs and bullets)
The USD operates on the good graces of the rest of the world. If the rest of the world goes into the toilet then printing is pretty much worthless. Remember: the US operates with a huge foreign trade deficit, over 40% of which is attributable to energy; if we're spinning our wheels with the current amount of imported energy, I'm not thinking that increasing the throttle would be anything but damaging.
I disagree.
The Fed does not see anything.
The Fed acts as it does because of a refusal to mark to market and end the existence of corporates which under any system of capitalism should have failed, been wiped out and then restarted. They should have done an Iceland. But they didn't.
Instead they launched this insanity of financial improvisation hoping to pull a TBTF rabbit out of the hat before the audience noticed what was going on. If the Fed wants to see the monster that is coming at them at 300 mph all they need do is look in the mirror.
What the fed sees is the insolvency of the western financial system which it undoubtedly caused. It is buying time hoping to regain CONfidence in the broken system and doing all it can to keep the banks solvent. I'm afraid this sharade (e.g. FRAUD) will continue and maybe for some time until the bond market pukes. I am surprised they keep this thing going but you have to remember that the intelligence of the general world's investment community is that of a greedy moron who has no desire to know what is really going on. He will puke his positions after the slide has already gained momentum as his greed transforms into fear. I would be taking profits and getting more defensive since I am not sure a QE3 will go over well with the people...
"What the fed sees is the insolvency of the western financial system which it undoubtedly caused." agreed. see my above comment
this is easy: "Power corrupts, absolute power corrupts absolutely."
'The Fed' is composed of, is OWNED by, the member banks. For the past dozen years, these bozos have gotten EVERYTHING they asked for (from congress & clueless, bought-off presidents).
- uhh... they've played the above cards over and over and over again (didn't even mention OUTSOURCING, aka CONTRACTING the American economy), so, eventually, they won't get that free money from uncle sucker, which they are totally addicted to, and that they would shrivel up and die without.
I think the Fed knows there is inflation and they don't care.
This has always been a one way trip for them.
Clinched by giving Europe trillions and getting Eurotrash derivative collateral.
It's clear this administration does not like a unipolar world. Wants it ended.
Forfeiture of WRC will end it.
Personally, I think all of this money printing is plugging the gapping holes in bank balance sheets. For the amount of printing they have been doing, total credit is not growing that much. Most of it is spilling over into stocks and commodities. If inflation were a serious threat in the near to medium term, then the bond market would sniff it out in the corporates and high yield. Having said that, I still think the bond market is pricing in a credit collapse. The entire economy is resting on a very flimsy foundation. Once the music stops (and it will have to once the bond market tells it to), we are talking about some serious problems.
Excellent article Sir!
The fed is in a unique position in its history and I don't envy their choices. What can they do? What should they do?
Here is choice #1:Don't change anything, keep pumping money into the investment banks, keep interest rates at historic lows. The outcome of this is already plain for everyone to see I wonder if even Karl Denninger figured this out yet. Inflation is going to literally kill people, millions of people possibly. People are going to die horrible deaths by starvation. There will be even more revolutions all around the globe. The ultimate outcome will be that everyone else will be forced to decouple from the Dollar and all the trading desks that use it. The dollar won't buy anything internationally. The dollar will be destroyed. Hyperinflation would be the probable outcome.
Choice #2: Raise interest rates to historic highs and I mean so high that people would rather get a secure payout of 20% from a government bond than to put that same money into a commodity that will earn the same over a similar period of time. This will save millions of people from starvation. This will save the dollar. But this will bankrupt the US government. The government will not be able to fund itself, interest and principle. If you are holding a 30 year bond that has a yeild of 1% you're also royally screwed. The deflationary depression would be on in no time at all. Commoditys would plumet in value.
Which would you choose? I'd choose #1 simply because I value human life. Other people might have different prioritys.
The people in charge of the Fed, the banks, couldn't give two hoots about america. These scum bags don't think in terms of borders, remember they want a one world government/currency, the collapse of the US is the endgame, if they can give their banker buddies a few more years of bonuses to boot, then thats ok with them too.
Hyperstagflation here we come.
As long as the USA is the "breadbasket" of the world and has a powerful military to back that status up,--- we may get banged up and maybe bloodied; but barring some unknown climate change, we will survive in some form or another.
This country still has trump cards in its hands. Milestones