In the span of just three weeks what little was left of efficient, free markets ended forever.
It started on March 15 when the Fed unveiled its first multi-trillion repo "bazooka" meant to rescue basis-trading hedge funds as the alternative was a flood of LTCM-like defaults (as we first warned last December), then continued on March 23 when the Fed launched its "nuke" (in the world of Paul Tudor Jones), unveiling unlimited QE (ending all trivially idiotic debates about just what "Not QE" was) and shocked markets by announcing the Fed would purchase investment grade bonds - something not even Ben "Chairsatan" Bernanke dared to do, and restarted the alphabet soup of bailout facilities that followed the Lehman failure. The Fed's nationalization of bond markets was complete on April 9 when the Fed expanded its corporate bond buying to include recently downgraded "fallen angel" junk bonds as well as municipal notes, PPP loans, AAA CMBS, and so on (a full breakdown is available here).
At that point, the Fed's takeover of capital markets which started in March 2009 - as we have been warning every day since then - was complete (with the Fed in charge of bonds, control over equities was trivial and it's just a matter of time before the Fed announces it will purchase stocks and ETFs outright) and for all intents and purposes what little was left of the free market died.
It also meant that investing, as we know it, is now dead something which was confirmed by none other than BlackRock's Rick Reider, who in a blog post said that going forward "we will follow the Fed and other DM central banks by purchasing what they’re purchasing, and assets that rhyme with those." Translation: the only "market" left is the one where the Fed is on the other side, propping up asset prices which no longer have any link to underlying fundamentals.
Of course, none of this is new to us - we had long predicted just this outcome which started with the Fed's first foray into nationalizing (or privatizing, depending on how one views the Fed's ownerships structure) markets with QE1 and which has now culminating into a free-for-all frenzy of unprecedented helicopter money in which every central bank is monetizing what every treasury is issuing. This can be seen in the following chart from Viraj Patel, which shows that after adding the ECB's latest balance sheet data, G3 Central Banks (Fed, ECB, BoJ) have now injected a total of $2.76bn worth of liquidity into global markets since the COVID-19 crisis began, which is "nearly double the initial liquidity impulse during the Great Financial Crisis."
Again, none of this is a surprise to us or our readers who for many years were (often tediously) bombarded with the facts of what is going on, and correct predictions of what is to come (yes, keep buying gold please).
Ironically, it now appears that what was obvious to us (and many others), has taken some of the biggest investing luminaries by surprise, and now that markets no longer exist, the blowback has begun. Below we present some examples of just how livid even establishment thinkers are, following Powell's unprecedented bailout of risk:
First, we start with DB's Jim Reid:
... we come back from Easter still reflecting on two big events that occurred late on Thursday. Although this crisis is unique in its making and is clearly not the fault of anyone in financial markets, it is clearly exposing two of the biggest fault lines in the financial system over the last two decades.... Thursday saw the latest instalment of a 20- to 25-year super cycle where the authorities have been so reluctant to see the creative destruction that’s so important to successful capitalism that they had to make another stunning major intervention.
Ever since the Fed of the late 1990s decided to bail out the financial system post the LTCM collapse, we’ve had rolling state sponsored capitalism and large moral hazard. This has meant that each subsequent default cycle (or mini market cycle) has been less severe than the free market parallel universe version would have been and has left increasingly more debt in the system as a result and meant that the intervention necessary to protect the system has got greater and greater. In my opinion, it also helps lock in lower productivity as you keep more low/no growth entities alive.
Next, here is Morgan Stanley's Michael Wilson:
The bottom line for us is that this latest move is very much in line with our prior view that investors should not have any doubts about the Fed's resolve to do whatever it takes to make sure this recession doesn't turn into a depression. In fact, they now appear to be trying to limit the healthy damage we typically get from a garden variety recession.
As noted in our prior research, we think the nature of this recession--the unprecedented suddenness and trajectory of the contraction centered on a health crisis--has provided absolute cover for policy makers to go well beyond traditional support. As such, the bad actors of the last cycle are getting bailed out, which could ultimately limit the malaise we typically get in a recession. In short, the worst stocks will likely have the biggest recoveries...
A far more morally bankrupt, if still correct, take came from Howard Marks, who after gobbling up billions in bonds in the past few weeks, suddenly developed a conscience and in his latest letter (5th in the past 5 weeks) joined the bandwagon of all those shocked, shocked, to learn that the Fed had nationalized (or privatized) the market:
Most of us believe in the free-market system as the best allocator of resources. Now it seems the government is happy to step in and take the place of private actors. We have a buyer and lender of last resort, cushioning pain but taking over the role of the free market. When people get the feeling that the government will protect them from unpleasant financial consequences of their actions, it’s called “moral hazard.”
Who’ll do the buying for the government and make sure the purchase prices aren’t too high and defaulting issuers are avoided (or doesn’t anyone care)?.... And why should the SEC provide relief to leveraged investment vehicles?”
... Unlikely (and even unforeseeable) things happen from time to time, and investors and business people have to allow for that possibility and expect to bear the consequences. In other words, they have to think like the six-foot-tall man hoping to get across the stream that’s five feet deep on average. I see no reason why financiers should be bailed out simply because the event they’re being harmed by was unpredictable."
But this point the anger at the Fed's actions (and getting richer, perhaps anticipating the inevitable populist backlash) was getting palpable, and overnight we got two more outraged investing giants, starting with Jeff Gundlach, who last night slammed the Fed for "failing" and being "fundamentally broken":
The Federal Reserve is presently acting in blatant non-compliance with the Federal Reserve Act of 1913. An institution violating the rules of its own charter is de facto admitting that said institution has failed and is fundamentally broken.
Of course, the Federal Reserve will make some wonky semantic arguement about why they are “technically” in “compliance”. Just like the balance sheet expansion program last fall was “not QE”.
The Federal Reserve is presently acting in blatant non-compliance with the Federal Reserve Act of 1913. An institution violating the rules of its own charter is de facto admitting that said institution has failed and is fundamentally broken.— Jeffrey Gundlach (@TruthGundlach) April 15, 2020
At around the same time, an "outraged" Mohamed El-Erian also slammed the Fed's bailout, asking "what if it's not just the risk of "zombie companies" eroding the productivity and dynamism of the economy...but also zombie markets mis-pricing risk/mis-allocating capital due to heavy official intervention?"
What if it's not just the risk of "zombie companies" eroding the productivity and dynamism of the economy...but also zombie #markets mis-pricing risk/mis-allocating capital due to heavy official intervention?— Mohamed A. El-Erian (@elerianm) April 15, 2020
There are better ways to help people and minimize future hits to growth
Dear Mohamed, this is not a "what if" question: this is all by intent, the Fed knows precisely what it is doing, and in this case it is subsidizing large corporations at the expense of small and medium businesses across the country, which will fail only to make the Amazon's of the world bigger than ever before (don't believe us? take a look at AMZN's stock price). The other goal is also simple: to eventually cause hyperinflation so that the equity tranche can be saved by hyperinflating away the debt above it in the cap structure. Simple as that.
In this context, it is hardly a surprise why as KBC Asset Management investor Dirk Thiels said "the stimulus seems to be endless." That's because it is: over 3 trillion in just three weeks, and the real stimulus is only now just coming (as the exploding price of gold confirms).
It's also how the Fed plans on bailing out the "financiers" present in capital markets: "Buy what the central bank has been buying and in the short-term it’ll be a good strategy" said Thiels, agreeing with Rieder who said "We will follow the Fed and other DM central banks by purchasing what they’re purchasing, and assets that rhyme with those."
In other words, there may not be capital markets, but what's left will be more profitable than ever. After all, the offset is trillions in debt that will never be repaid as the full-blown plunder of future American generations is unleashed, which of course, is another name for "buy what the Fed is buying" which reminds us of what Rabobank's Michael Every said this morning:
markets are ecstatic because there is no need to actually do any thinking at the moment. The Fed has made clear that there are to be no losers – or at least that one does not have to bother trying to pick the winners.
As in the infamous scene in the movie ‘When Harry Met Sally’, all that markets need to do to make money is to say “I will have what the Fed is having.”
Of course, this state of affairs works... until it doesn't, as the USSR demonstrated so vividly:
How much further can we take the dichotomy of bull markets as we head to 10%, 15%, or perhaps 25% unemployment? Let’s test the structure in a teleological manner. Can everyone lose their jobs or be paid to do nothing, and all activity stop except that of the government, but everything still remain happy in markets because the Fed will just keep setting the price of assets? I believe we tried that from the 1930s up to 1991 (“We pretend to work and they pretend to pay us”) and it didn’t work out so well for those on the receiving end of it.
We leave the parting words to El-Erian who last night said that "There are better ways to help people and minimize future hits to growth."
Well of course there are, which is precisely why the Fed will never use them.