There Will Be No Refunds!

— No wonder the world is screwed up. How many millions of hours were wasted this week by people trying to work out what Ben Bernanke was going to do or say?

— The world has turned socialist and we don’t even know it. The finance industry employs millions of bureaucrats to engage in completely unproductive work. They predict and then dissect the actions of the chief bureaucrat – the head of the Federal Reserve – and get paid handsomely to do it.

— And for what? The global economy has been deteriorating for years under the distortions brought about by cheap money. Yet the mainstream can’t for the life of them work out what the problem is. So they turn to their benefactor, the Fed, for the answers.

— The Fed is the antithesis of capitalism. It picks winners and losers through its policies and rewards speculation over innovation, connivance over hard work and profligacy over thrift.

— The West has become a socialist state. Yet the change from capitalism has been so long in the making and so subtle that almost no one realises.

— The essence of capitalism is about individual freedom. Yet the world is weighed down by debt. For centuries, humans have viewed excessive debt as an inhibitor of personal freedom. And the Fed actively encourages debt accumulation!

— And it appears it only has one playbook. Overnight, Bernanke satisfied the definition of insanity once again by announcing a policy of more cheap money. Does he really expect it will work this time? No one else does. We won’t bore you with the details and we certainly won’t mention the banality of its name, ‘Operation Twist’ – except for just there.

— All it will do is rearrange the composition of the Fed’s balance sheet, with the aim of pushing long-term yields even lower. Because the Fed’s balance sheet remains static, there’s no new money for the speculators to play with.

— Someone benefits though. Our guess is the beneficiary will be whoever sells the Treasury securities (around US$400 billion worth) to the Fed. It’s a bull market in US government bonds at the moment and the Fed is buying at the top. The cost will eventually fall on America’s middle class.

— That realisation will come later. In the meantime the speculators have been denied additional money. That’s partly the reason why the S&P500 tanked by nearly three per cent. More importantly though, we think the market is (finally) beginning to realise the Fed does not have the answers…and it might actually be the problem.

— In the scheme of things, the Fed’s policy is pretty benign. Bernanke is not dropping notes from a helicopter nor is he buying European sovereign debt – not directly anyway.

— But even this ‘benign’ policy had its dissenters. Three regional governors (out of 10) voted against the action. They were Richard Fisher, Narayana Kocherlakota and Charles Plosser. It appears that extreme Fed idiocy might be hard to accomplish with so many dissenters on the board.

— So the three per cent decline in the market reflects an acknowledgement of a deteriorating economy and a Fed that can’t do anything about it – and is actually making it worse.

— We think that is actually a good thing. When the market starts to point the finger at these clowns as the perpetrators of the world’s financial ills, the system might finally begin to self-correct.

— But that’s probably a case of wishful thinking. Another way of looking at this is that the Fed can’t risk another bout of destabilising commodity inflation by doing a full-blown QE.

— The chart below shows the CRB commodities index. QEII was formulated and leaked back in August 2010 and officially announced in November 2010. As you can see the Fed lit a fire under commodity prices at the time, which had all sorts of unintended consequences. Colonel Gaddafi would attest to that.

— Current prices are still way above QEII trigger levels. So, on this reasoning, commodity prices will need to fall by at least 20 per cent before the Fed can play the deflation card and begin expanding its balance sheet again.

CRB Index
Click here to enlarge

— The Aussie dollar was a big casualty of the Fed’s announcement. It lost around 2 cents overnight and is now trading just under parity. You can talk all you want about the fundamentals of the Aussie being strong. But the bottom line is it’s at the whim of international capital, which moves to the beat of the Fed’s drum.

— And the Fed is signalling to reverse the ‘carry trade’. So they sell the Aussie and buy back US dollars. Call it reverse speculation.

— With Greece preparing for default, we could be in for few rough weeks on global markets. Right on time for September/October, the bear could be about to step it up a notch.

— This clip from the movie Semi-Pro with Will Ferrell is a good representation of how a bear market actually works. We’ve been through the mocking phase (crazy fists) and had our first fright (watching in fascination as the bear starts his work). Then, the bear gets loose. The crowd watch in frightened disbelief…then full- blown panic hits the arena.

— The clip is hilariously funny (warning…it contains a few swear words) but the reality certainly won’t be.

— So make sure you’re cashed up and prepared to keep your head should everyone lose theirs in the coming months. As Will Ferrell’s character says, ‘there will be no refunds!’

Greg Canavan
for Markets and Money

PS: Slipstream Trader Murray Dawes’ latest free market update was posted to YouTube yesterday. If you haven’t watched it yet, click here. While you’re there, check out his other weekly posts – and see for yourself how accurate his market predictions have been…

Greg Canavan
Greg Canavan is a contributing Editor of Markets and Money and is the foremost authority for retail investors on value investing in Australia. He is a former head of Australasian Research for an Australian asset-management group and has been a regular guest on CNBC, Sky Business’s The Perrett Report and Lateline Business. Greg is also the editor of Crisis & Opportunity, an investment publication designed to help investors profit from companies and stocks that are undervalued on the market. To follow Greg's financial world view more closely you can subscribe to Markets and Money for free here. If you’re already a Markets and Money subscriber, then we recommend you also join him on Google+. It's where he shares investment research, commentary and ideas that he can't always fit into his regular Markets and Money emails. For more on Greg go here.

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Fisher will dissent until such time as his act of dissent makes a difference. Then he will switch sides.

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