Submitted by Gonzalo Lira via Gonzalo Lira's blog,
People often criticize me for objecting to the Federal Reserve’s Quantitative Easing (QE) and Zero Interest-Rate Policy (ZIRP) on the grounds that they are setting the stage for hyperinflation and a dollar collapse. Since neither has arrived - yet - people mock me, often pretty badly: “Hey Lira! How's that 2% ‘hyperinflation’ working out for ya!”
But even if you don’t buy that QE and ZIRP will lead to a dollar collapse, you do have to admit that these Fed policies have severely brainwashed investors.
Why ‘brainwashed’? Because today, due to the Fed’s policies, stock prices are booming—we’re about to crack 16,500 on the Dow Jones, NASDAQ is well on its way to 4,200, and the S&P is close to 1,850—all record highs.
What’s wrong with record highs? What’s wrong with booming stock prices? Absolutely nothing—unless you look at the two-year charts and realize that these three indices are not reflecting a robust, booming economy. Rather, they have had unrelenting climbs that have been openly—and exclusively—caused by QE and ZIRP.
Which has brainwashed investors into dismissing value. Today, all investors are momentum-chasing pump-and-dumpers who are not worrying about fundamentals, or worrying about the long-term health and well-being of a company.
All they have been brainwashed into caring about is the rise in a stock’s price.
Which is pretty funny, if you think about it: These investors might shun penny-stocks, they might buy and sell stocks by way of “respectable” brokerage houses—but these investors are behaving exactly like the suckers taken for a ride by sketchy boiler rooms operating out of north Jersey.
And we all know how those poor saps usually end up: Broke, holding on to worthless stock certificates not worth the paper they’re printed on.
Why is this happening? Easy, because of the Fed’s QE and ZIRP have so flattened the yield curve across Treasuries and the rest of the bond markets, that anything yielding better than 5%—in any asset class, not just bonds—quickly gets priced up.
They call Treasuries the “benchmark” for a reason: As the (supposedly) safest asset class, they set the yield curve for all assets in all classes—not just in other bonds, but in equities and real estate as well. If Treasury yields are minimal, then a “normal” yield in a riskier asset class will also be minimal.
Look at the following chart:
These are the Top 20 Dow Jones stock as measured by expected stock dividend yields for 2014. The mean of these Top 20 is 3.16%, the average 3.28%.
Now, these are the bluest of the blue-chips—repeat, the Top 20 as measures by yield. If you get dividends of 3.28% on these blue-chip stocks, and pay an income tax rate of say 35% combined State and Federal, you’re looking at a yield of 2.13%.
That’s yearly. That’s less than inflation.
So why are the yields on these oh-so-blue-chips so low? Because of QE and ZIRP’s unrelenting asset price inflation. That’s why you have companies like twitter—which does not have any income to speak of—with a market valuation of $38 billion or whatever.
Since nothing yields a healthy 6% or better, the only thing investors care about today is whether the price of the asset they “invest in” will rise within the year—so that they can sell it at a profit.
That’s not investing—that’s speculating.
By the way, unrelenting asset price inflation was the whole point of the Federal Reserve’s policies. Yeah, I know I went overboard with the combined bold-italics-underlined thing, but I just wanted to emphasize that point, and one other:
The Federal Reserve is the boiler room operation that has pumped up the equities market by way of QE and ZIRP. You are investing in a pump-and-dump scam. And like in all such scams, you will lose.
Clear enough for ya?
Crazy as this may sound, when you look at those measely yields for the Top 20 performer, you realize that investors for the time being are acting rationally: Since yields are minimal—in fact negative, after you factor in income tax and inflation—it pays investors to speculate, rather than to properly invest. Not only are the Fed’s policies goosing the equities markets, the tax code privileges speculators as well, by way of a capital gains tax rate which is lower than the income tax rate. You pay less taxes if you speculate than if you invest responsibly. (!)
Thus both the Federal Reserve and the IRS are encouraging speculation. That’s how investors have become brainwashed: They think that this low-yield, high-asset price inflation, low-capital gains tax environment is the way things ought to be.
But even though the Fed is deliberately, openly goosing the market, no different from a Jersey boiler room operation, nobody’s complaining—or even realizing it—because at this time, investors are making money with this Global Pump-and-Dump.
It ought to be beautiful, right? Everybody making money, all happy in the world. Only problem is, these pump-and-dum scams always end. When do they end? When people stop believing in the hype. When people realize that the global economy is in the toilet, companies are not booming but barely getting by, and there’s nothing on the horizon which will restart the economy. When people—and not a lot of people, mind you, just a tipping point estimated at about 10%—realize that this game that the Fed is playing with QE and ZIRP is a game of musical chairs.
That’s when the Fed’s Global Pump-and-Dump Scam will blow up.
You don’t think as I do that QE and ZIRP will lead to hyperinflation and dollar collapse? Fine, that’s cool—but admit that these Fed policies are skewing the market: They are turning investors into speculators—scratch that, brainwashing them into gamblers.
And it will all end in tears—these schemes usually do. I for one am keeping an ear on this game of musical chairs, trying to anticipate when the music will stop.