On the way across the Tasman to a wedding in Auckland this weekend, so the notes will be short from your Melbourne-based editor today. The good news? As bad as it gets in financial markets, life goes on. People still fall in love, get married, and hopefully throw great parties afterward.
But there is no party in New York. It’s more like a funeral. As we write, the S&P 500 is down more than four percent. It’s taken the index back to levels not seen since 1996. Large companies are slashing payrolls, cutting their dividends, and issuing dire forecasts.
What is the stock market telling us? Has it fallen out of love with Obama? Is it terrified of his wealth redistribution policies? Is it stark raving mad? Or is it a perfectly rational reaction to a situation that lacks transparency in the banking sector and an obvious, easy way out of the economic hole we find ourselves on?
Frankly we have no idea why the market does what it does on a day to day basis. But it’s obvious that investors have little confidence in stocks, the economy, or central banks at the moment.
Speaking of which, the Bank of England has begun what you can expect to be a global process: quantitative easing. The BoE is set to buy $330 billion in corporate and government bonds in a bid to get the debt markets unstuck.
There are two important questions here: where will that money from and where will it go to?
The money will be printed. That is, the monetary base will increase. But will that lead to higher prices? Yesterday, we neglected to elaborate on one aspect of the Central Bank strategy, namely the withdrawal of liquidity before it seeps into the economy to spark inflation.
The Fed and its global counterparts believe that their various lending programs and now, outright buying of corporate and government bonds, will lower the price of money and get credit flowing normally again in the economy. At that point, the expansion in the monetary base can be mopped up before it turns into runaway inflation.
By the way, just how exactly do you “mop up” hundreds of billions of dollars? You need a big mop! But the other way is for the central bank to sell its vault of short-term securities back into the market (or to the banks) in exchange for cash. We’ll see how that goes…
Marc Faber’s Gloom, Boom, and Doom report just hit out in box and we plan to read it during our flight in a few hours. Meanwhile, Bloomberg reports that, “Marc Faber, the investor who advised buying gold in 2001 before it tripled, said he owns Ivanhoe Mines Ltd., NovaGold Resources Inc. and Gabriel Resources Ltd. because explorers will gain the most as bullion rallies.”
“The mining stocks,” he says, “especially exploration companies, are relatively attractive, but you have to buy the ones that have a strong backer…A lot of companies will run out of money. The ones that have a strong backer will be OK.”
Sounds about right. We’ve been covering gold and precious metals stocks (along with oil and energy) in Diggers and Drillers the last few months. In an otherwise bleak landscape for resource companies, these are two sectors that are directly affected by weakness in financial markets and growth in the money supply. And of course, there are dynamics particular to each asset (gold and oil) that affect their prospects. But generally, the prospects for the underlying commodities look good, making stock selection the big hurdle.
What would happen to Australia’s banks if the short-selling ban were lifted?
Back on Monday with another edition of the Markets and Money. Until then…
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