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The Next Crisis Will be a Crisis of Faith in the Fed
The Fed has created a very very dangerous situation.
Ever since 2009, anytime the markets came close to breaking down, “someone” (read: the FED) has stepped in a propped the markets up.
In 2010, the S&P 500 staged a death cross, where its 50-DMA broke below its 126-DMA (the half year moving average). Stocks were in a perilous state with the 2008 Crash still in everyone’s short-term memory.
The Fed stepped in, hinting at, then all but promising, and then finally launching QE 2 in July, August, and then November, respectively.
This set off a rally in stocks that lasted until the EU Crisis erupted in full force in 2011. Once again stocks staged a death cross. And once again, the Fed stepped in with promises of action followed by the announcement of Operation Twist in September 2011. Stocks took off and we were back to the races.
Which brings us to 2012. Europe was really going down in flames. Greece, then Portugal, and even Spain were lining up for bailouts. And the bailouts were getting larger by the month with Spain requesting €100 billion in June 2012.
ECB President Mario Draghi promised to do “whatever it takes” to hold the EU together. But the carnage was spilling over even into US markets. So Bernanke’s Fed promised yet another QE program, though this new program would be “open-ended” in June.
Sure enough, Bernanke unveiled QE 3 in September 2012. He then upped the ante, unveiling QE 4 in November 2012.
Stocks took off again, launching one of the sharpest, strongest rallies in history.
This same madness has continued despite the Fed ending its QE efforts. Last month the markets took a nosedive to critical support. This time around rather than launching a new monetary policy, a Fed President stepped out and hinted that the Fed should consider postponing the end of QE (a mindless statement given the Fed had only $5 billion in QE left at the time.
Logic aside, the markets took the hint and erupted higher again.
In simple terms, the Fed has completely conditioned the markets to believe that NO MATTER WHAT stocks will be held up.
This policy has worked fine… but eventually it will fail, just as all market props do. Eventually the investment herd will begin to sell/ take profits. And at some point there will be a selling panic.
Gauging when this will happen is impossible as we are now talking about crowd psychology, not market fundamentals or economic data (neither of which have mattered for over two years).
However, the fact remains that all bubbles burst. This bubble will be no different other than the fact that it was in fact been the FED that created and perpetuated it long after it normally would have burst.
Put another way, when the next crisis hits, the Fed will effectively be out of ammo as it will be a crisis of faith in the Fed. Whenever investors themselves begin to comprehend that the Fed is now more leveraged than many of the investment banks were when they went bust in 2008, the end game will begin.
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Like Helipcopter Ben pointed out, the Fed is never out of ammo when it comes to propping up prices. There is no cap to their ability to create $ out of thin air and use it to buy stocks, bonds, whatever. What IS limited is people's willingness to be robbed.
The other thing the Fed can't do is control what people do with those $ once they're floating around in the system. When people stop wanting the $, the Fed loses control.
"Whenever investors themselves begin to comprehend that the Fed is now more leveraged than many of the investment banks were when they went bust in 2008, the end game will begin."
To whom is the Fed indebted?
And to the extent the Fed is leveraged, what prevents them paying their debts via the same ALT/CTRL/Print function they have used to conjure the digits with which they've been purchasing treasuries all along?
I hate the Fed with as righteous a hatred as anyone you can name around here, but to my way of thinking, the above statement is delusional in the extreme.
The author points out how everytime there is any market weakness the Fed comes to the rescue, and yet he believes he can fight them. Jawboning alone is good for 500 points, If things got serious, mention of QE4 would be +2000 and shorts again would be crying out in pain. The author refuses to accept the 'New Normal'; Fed interventions are just the way it is forever. The BOJ buys ETFs and props up their Nikkei, just business as usual. The markets cannot stand on their own anymore and are too big to fail. The oligarchs must prevent riots in the streets and keep the lemmings in line. If they allow Dow 7,000, our cities might burn. The Fed enables stock buybacks and consumers to pile into more debt to buy things. It allows the government to spend trillions it doesn't have and keep unemplyment from going to 50%. Win-win. Need real deep pockets to wait them out...
All of us have heard cocky investors and traders tout the line that the Fed will not let the market crash. This is generally the reason people get over confident and into trouble. At some point reality does win out and a correction does take place. As I see it the weight of carrying a large number of unemployed and people who have dropped out of the work force is wearing society down through attrition.
The article below points out some of the glaring flaws in the argument that blue sky lies ahead as the stock market seems to indicate. As I look at a landscape of empty and under-leased buildings that once housed thriving businesses that provided Americans with good paying jobs I'm forced to ask, How are things getting better?
http://brucewilds.blogspot.com/2014/10/tell-me-again-how-things-are-getting.html
The Fed thought it was a Game of Kings and they were a player .
King Storm , King Desert and King Lightning .
See the Kings in winter .
Things are actually looking up . See
https://www.academia.edu/9204956/Slingshot_Atmospheric_Rivers
https://www.academia.edu/9304658/Optimal_Deserts
https://www.academia.edu/9306394/Optimal_Lightning_
The item does not explain how a central bank becomes "over leveraged." This would be interesting to know. Speculators in the stock market become over leveraged through the use of margin accounts backed by commercial bank loans to brokers. The commercial banks can now make large brokers' loans due to large available reserves at the Fed. Perhaps this is what the author is referring to - an indirect over leveraging originating at the Fed.
I think the term overleveraged isn't quite what was intended howeverI think it was referring to money base. And much to my surprise that chart is heading south. (I guess Japan will just have to work harder to grow that stack).
So that didn't help answer your question. Anyone else?
In phase I of the crisis, faith is optional. In phase II it will be mandatory.
"Crisis of confidence"? See the Henry Ford quote on the prospects for revolution, if people really begin to undwerstand the FED.
http://www.themoneymasters.com/the-money-masters/famous-quotations-on-banking/
This article is so 2009....
'...but eventually, it will fail... And at some point...'
You act like we haven't heard that platitude over and over again for the last six years.