The Limerick of Finance for 10/04/15

Bernanke said bankers need jail
They made the economy fail
Big shots got away
Still able to play
Financial markets are still frail

No Way Will The Fed End QE During Bernanke's Tenure

I did not have to listen to Fed Chairman Ben Bernanke's remarks yesterday to know what he was going to say.  I've chronicled the Fed's mentality for years on this blog.  The Fed isn't interested in reducing unemployment.  It is actually interested in encouraging spending by promoting a wealth effect in asset classes.

The Fed has liberally provided support to bond valuations and suppressed interest rates by purchasing government bonds and mortgage-backed securities.  Remove that demand, or even threaten to do so, and asset prices reset to a sustainable equilibrium.  That equilibrium for bond valuations is much lower than where it is today.

Suppressing nominal interest rates means investors are forced to search for yield in assets besides cash savings.  Investors have chased stocks.  Corporate profits have historically been an average of 6% of GDP, and lately they've been almost twice that figure.  Mean reversion in the earnings of a P/E ratio eventually affect the price as well.  The equilibrium for stock valuations is much lower than where it is today.

Low rates encouraged home buyers to once again buy more house than they could afford.  No one learned anything from the housing crash.  Private equity firms bought up vacant homes to use as rental properties.  Rising interest rates will cause them pain as home values sink to levels below what they levered up to buy.  The equilibrium for home prices is much lower than where it is today.

The market is reacting predictably to the Chairman's remarks, with stocks and bonds slumping.  Addicts react badly when they can't get their regular fix.  That's why I don't think the Fed is serious about ending its monetary stimulus.  Talking the markets down means nothing.  Some black swan event will force the Fed to lose control of the yield curve no matter what it purchases.

Bernanke's Pangs Over TBTF Bank Capital Adequacy

Is the Fed Chairman having pangs of conscience over regulation of TBTF banks?  His latest remarks in Chicago indicate a willingness to implement tougher capital controls.  The Fed's much-ballyhooed stress tests of big banks were touted as assuring their survivability.  Either the banks have taken on more risk since then, or the stress tests were rigged.  Reporting on the Fed's balance sheet expansion emphasizes how the Fed has bought impaired securities (MBS and such) from banks while extending them no-cost loans to buy long-dated Treasuries.  We also know banks aren't lending, with the exception of government-backed home mortgages and student loans.  If bank risk has been reduced, then the stress tests were fixed.  The Fed has used up all of its balance sheet tricks to keep banks solvent.  Now banks are exposed to interest rate risk on their Treasuries.  When rates inevitably rise, those Treasuries will drop in value and banks' balance sheets will be crushed again.  The Fed enticed banks to trade one risk for another.

More detailed reporting of the Chairman's remarks reveals concern over a run on money-market funds.  The financial crisis of 2008 almost achieved critical mass when money-market funds threatened to break below $1 of NAV.  Nothing has changed and the money-market fund your bank says is as good as cash contains nothing more than IOUs from counterparties who can still go bust in a heartbeat.  The best decision is to prohibit money market funds from owning anything other than cash but that won't happen because the Fed would rather "assemble data on repos" as a fig leaf.

Maybe Helicopter Ben wants out when his term expires because he knows the Fed, owned by its member banks, will not tolerate any changes to money-market funds that reduce their usefulness as off-balance sheet funding tools.  Tighter capital controls mean less lending but banks are hardly lending anyway without government backstops.  The Chairman is having his moments of clarity long after the political will to force real changes on banks evaporated.  The next crisis will be upon us with no advance notice.  Federal Reserve officials concerned about their place in history won't want to be around when it hits.  "I'll be gone, you'll be gone."

The Haiku of Finance for 12/13/12

Fed sees jobless rate
More hiring will change Fed's stance
Until then, inflate

The Haiku of Finance for 07/18/12

Bernanke warning
Budget fix or recession
Yeah, what does he know?

The Limerick of Finance for 06/10/12

It's good to have strong currency
But the Fed's run by Ben Bernanke
He wants to inflate
Waiting may be too late
Hedging cash is one trick he can't see

The Haiku of Finance for 04/09/12

Ben wants capital
Banks need a bigger buffer
So he can QE

The Fed And Consumer Protection? Gimme A Break!

Apparently the dual policy goals of fighting inflation and encouraging economic growth don't keep the Fed busy enough. They're looking for more things to do. Now the Fed wants to look after your best interests:

Federal Reserve Chairman Ben S. Bernanke said consumer protection should be added to the Federal Reserve Act as a formal policy goal along with low inflation and full employment.

“We were not quick enough, we were not aggressive enough to address consumer issues earlier in this decade,” Bernanke, 55, said in response to a question from Christopher Dodd, the Connecticut Democrat who chairs the Senate Banking Committee.

There's no way I can take this seriously. This trial balloon is obviously some kind of ploy to make naive people in Washington or the media think that the Fed is manned by do-gooders who place Joe Six-Pack's well being before Goldman Sachs'. I can't wait to see the next red herring they throw in our faces. Maybe this wouldn't be such a poor idea if it completely replaces the existing mandates for growth and against inflation, mandates which the Fed is spectacularly failing to deliver.

Note to Fed: The best thing you can do to protect consumers is to quit printing money at warp speed. This consumer destruction policy will make it very hard for savers to fund their retirement years.

I sent my resume to the Federal Reserve Bank of San Francisco several years ago and was dismissed as "unqualified." Yeah, I'd say I'm unqualified to ruin a nation's economy.

Bond Market Blowoff Top

Bonds are exploding as Homo investus demands safety:

Bond investors across the country are snapping up 10-year Treasury notes as expectations for a U.S. economic recovery this year disappear.

The Fed's target funds rate can't go any lower than zero. Bond euphoria won't last forever, and the Fed can't possibly explain an exit strategy that won't devalue the dollar:

Federal Reserve Chairman Ben S. Bernanke probably will show how the central bank will exit the biggest monetary expansion in history when he reports to Congress next week, economists said.

Good luck with that. I'm staying as far away from this oncoming train wreck as I possibly can.

Nota bene: Anthony J. Alfidi owns no Treasuries at this time due to the default risk posed by massive government borrowing combined with plunging tax revenue.

Greenspan Bloviates in Paperback

Former Fed chief Alan Greenspan may very well enjoy second-guessing the country's current financial leadership. The thing is, he's not guessing with his comments today. He's merely restating reality.

A high-level panel of financial officials should be given broad authority to quickly determine whether a failing company poses a sufficient threat to the entire U.S. economy, he recommends. If so, the company would be shut down.

He's actually describing the current ad-hoc relationship that the Fed has begun building with the Treasury Department, although he doesn't name it as such. The quote above neatly summarizes the government's response to Bear Stearns' collapse. And I thought I was alone in my penchant for stating the obvious.

"We need laws that specify and limit the conditions for bailouts -- laws that authorize the Treasury to use taxpayer money to counter systemic financial breakdowns transparently and directly rather than circuitously through the central bank as was done during the blowup of Bear Stearns," Greenspan wrote in a new epilogue to the paperback edition of his memoir, "The Age of Turbulence: Adventures in a New World."

I'm not convinced that a new set of laws will mean much to policymakers with so much (already de facto) new power. The Fed's charter gives it a legal mandate to fight inflation, but Helicopter Ben chooses to ignore it.

"Much as we might wish otherwise, policymakers cannot reliably anticipate financial or economic shocks or the consequences of economic imbalances," Greenspan says.

It almost sounds like the Maestro has learned something from his own injections of liquidity into the economy after 9-11. This may be as close to a mea culpa as we will ever hear from Mr. Greenspan for his contribution to inflating this decade's housing bubble. Perhaps I'm reading too much into this.

Fed Minutes Revelation: Bet Against Common Sense

I have been humbled in years past by my inability to predict the Fed's interest rate moves. As a fan of sound monetary policy, I have heretofore failed to appreciate the pro-inflationary bias that Helicopter Ben has adopted as a result of his reading of the Fed's historical response to the Great Depression. The Fed's rate-cutting in 2007 was the exact opposite of what I had anticipated from the standpoint of fulfilling the Fed's inflation-fighting mandate.

My mistake was in thinking that the Fed thinks the way I do as a Myers-Briggs INTJ "Duty Fulfiller." I've learned my lesson. Instead of imagining what I would do if I were Fed BOG Chairman, I will imagine the exact opposite of what I would do.

Today the Fed released minutes from its last meeting in August.

While the members agreed the next policy move would likely be an increase in rates, most of them did not see the Fed's current monetary stance as "particularly accommodative," because households and businesses were facing tighter credit and higher borrowing costs.

The Fed doesn't see its unbelievably low target rate as "particularly accomodative" to higher inflation, so they're in no hurry to raise rates even though they admit that a tightening at some future date is justified. That's the thing I don't get. Why isn't a tightening justified right now, given that the latest CPI clocked in a 5.6% year-over-year (yoy) increase?

Like I said up top, to be a better Fed predictor I now must imagine the opposite of what my sound-money prudent instinct dictates. The Fed will allow inflation to run its course for the forseeable future. Therefore, my heavy allocation to gold makes more sense than ever.

Nota bene: Anthony J. Alfidi is long IAU and GDX in anticipation of higher inflation.