How Dumb Is the Fed?

We have bought a place nearby.

But it will be months before it is habitable.

In the meantime, we need a place to stay. So we’re renting a place on the estate next door.

It’s an apartment built over a boathouse on the Blackwater River in County Waterford.

Sunset on the Blackwater River 13-02-2018

Sunset on the Blackwater River
[Click to enlarge]

Best bet

The best bet last week was the least popular one: buying Wall Street’s ‘fear gauge’, the CBOE Volatility Index, or VIX.

One ‘mysterious trader’ was reported to have made a multimillion-dollar bet that volatility (aka price swings) would rise for stocks.

We hope he stuck with it; it should have paid off big time. As it happened, the VIX did not merely go up; it spiked as high as 199%.

What happens next is anyone’s guess. But at least we know that the bear is awake…and on the prowl.

Where and when he will strike next waits to be seen.

Bipartisan recklessness

In the meantime, we shift our attention to more predictable events. (We know they are more predictable because even we saw them coming.)

We refer to the way in which Democrats, Republicans, and the president are colluding to keep the cash flowing — to themselves, their clients, and their zombie pals.

At the end of last week, in a shameful act of bipartisan recklessness, Pelosi, Schumer, Ryan, and Trump got together not only to fund the government, but also to remove further obstacles to budget hikes.

Now, they are setting out for a wild night on the town — top down, four on the floor, a fifth under the seat…and wedding rings in their pockets.

The GOP tax cuts plus the recent bipartisan budget deal amounts to fiscal stimulus of about 1.25% of GDP this year…and 2% of GDP over the next two years.

That’s more than the emergency stimulus passed by President George W Bush in 2008 during what was supposed to be the worst economic crisis since the Great Depression.

It amounted to just 1% of GDP.

And it’s only slightly less, in GDP terms, than the ‘massive’ emergency stimulus package passed by President Obama in 2009.

As far as we know, only one person — Senator Rand Paul — made any effort to stop them.

He warned that the GOP was betraying its roots and its responsibilities — which it clearly was.

Naturally, the GOP leadership and the press jumped all over the poor senator for ‘wasting time’.

Party time!

So now, it’s party time.

Laissez les bons temps rouler,’ as they say in New Orleans.

As predicted in our ‘headlines from the future’ on Friday, look for $2 trillion deficits — 10% of GDP!

By 2027, we should have a federal debt near $40 trillion.

But that’s the easy part…

The actions of politicians are more or less predictable; the market’s reaction is not. Most likely, the unstoppable force of fed borrowing will collide with the immovable object of the bond market.

The feds are already scheduled to borrow more than $1 trillion over the course of the next year — even without a recession.

This coincides with the Fed unloading bonds at a $600 billion annual pace.

Let’s see: Much less demand for credit…and much more supply.

And no ‘Powell Put’.

For the moment, the new Fed chief, Jerome Powell, and his governors are staying home, catching up on their Bible reading. The party poopers have forsworn further bond purchases.

So no one is guaranteeing to buy the government’s paper. 

Crescendo of dumbness

Most likely, interest rates will rise…and speculators will begin front-running the Fed.

One of the most looney features of the Bernanke-Yellen leadership years was the ‘transparency’ doctrine.

Unlike their predecessor Alan Greenpsan, who famously spoke in mumbo-jumbo, Ben Bernanke and Janet Yellen telegraphed their intentions to investors.

Unfortunately, neither Fed chief had experience in business…or markets. And they seemed to have no idea how they worked.

Real investing is a win-win proposition: You put your money into a real business. It makes real money. You share in the profits.

Speculating, on the other hand, is win-lose.

Speculators do not buy and sell based on their assessment of the intrinsic value of a given asset. Instead, they look across the table and try to guess what cards other speculators are holding…and what they will do with them.

They look for the ‘fool at the table’ and try to anticipate what dumb mistake he will make.

For the last 10 years, the fool was easily identifiable. It was the Fed.

The US central bank slashed interest rates to near zero to juice up the stock market.

Then under three separate QE programs, it bought more than $4 trillion worth of government bonds at some of the highest prices in history.

And in a breathtaking crescendo of dumbness, it signalled to speculators exactly what it intended to do ahead of time.

Piece of cake

Naturally, the other players — hedge funds, Wall Street banks, pension funds, etc. — took advantage.

They bought stocks and bonds knowing they could unload them at higher prices.

Uncertainty is what keeps traders honest. They take chances. But they know their bets could go bad. So they are cautious…and often corrected.

But when the Fed — by far the largest player at the table — tells them in advance what it will do, uncertainty declines.

In this way, the Fed greatly reduced risk. And it was ‘Party On!’ — from excess to more excess, with nothing to stop them.

Now, the Fed — clueless as ever — has once again made its intentions known. It’s going to raise interest rates and let the bond pile it built up during QE shrink…removing an important prop from the market.

How long will it take traders to put two and two together now?

Betting against it — by selling stocks and bonds — should be a piece of cake.


Bill Bonner,
For Markets & Money

Since founding Agora Inc. in 1979, Bill Bonner has found success and garnered camaraderie in numerous communities and industries. A man of many talents, his entrepreneurial savvy, unique writings, philanthropic undertakings, and preservationist activities have all been recognized and awarded by some of America’s most respected authorities. Along with Addison Wiggin, his friend and colleague, Bill has written two New York Times best-selling books, Financial Reckoning Day and Empire of Debt. Both works have been critically acclaimed internationally. With political journalist Lila Rajiva, he wrote his third New York Times best-selling book, Mobs, Messiahs and Markets, which offers concrete advice on how to avoid the public spectacle of modern finance. Since 1999, Bill has been a daily contributor and the driving force behind Markets and Money.

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