Why the US Federal Reserve is Driving Towards a Cliff…Again

It was all happening in the US overnight. Initial estimates for first quarter US economic growth came in at just 0.1%, which everyone put down to ‘the weather’ and ignored. Why should economic growth matter when you’ve got low interest rates anyway?

Then the US Federal Reserve came out and announced, as expected, a continuation of their tapering program. Starting from now it will only pump US$45 billion per month into US asset markets, as opposed to US$55 billion per month. But don’t worry, there were assurances aplenty. The Fed won’t let anything bad happen.

‘If incoming information broadly supports the Committee’s expectation of ongoing improvement in labor market conditions and inflation moving back toward its longer-run objective, the Committee will likely reduce the pace of asset purchases in further measured steps at future meetings. However, asset purchases are not on a preset course, and the Committee’s decisions about their pace will remain contingent on the Committee’s outlook for the labor market and inflation as well as its assessment of the likely efficacy and costs of such purchases.

‘The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.’

This combination of bad economic news and good monetary/liquidity news sent stocks higher. The mainstream media got caught up in the liquidity hype and gushed about the Dow Industrials closing at a new record high. See if you can see it below…

Dow at a Record High — Just

Dow Jones Industrial Average Index December to April 2014
click to enlarge

  That tells us the Dow is up a mere few points for the year. No matter what the US Federal Reserve says, it’s hard for a market to advance strongly into monetary tightening, which is what the taper is all about.

Just in case you are in doubt about our views on this market, we’ll state it clearly: It’s a speculative gamble-fest, driven by hedge funds and leverage on the one side, and restrained by seasoned long term investors on the other. As monetary tightening continues to bite, the seasoned investors will win the argument. They always do.

In the meantime, you’re confronted by the dangerous idea that everyone thinks the Fed will take care of things in the event of any trouble, so therefore there won’t be any trouble. It doesn’t matter that this is a ridiculous idea with no basis in historical fact.

Our brains are prisoners of the very recent past…this idea has its origin in the post-2008 ‘recovery’. That is, central banks got us out of the mess via reflation and will keep us permanently propped up on a cloud of hope (also known as belief and confidence). Our brains are also dumb, as we tend to promptly forget any decent lessons learned throughout history, casting aside the wisdom of generations past, because, well, this time it’s different.

Well, it ain’t. The Fed is driving the car toward a cliff…again…and it will crash hard when it goes over. The fact that nobody knows where the cliff edge is isn’t enough reason to stay in the car. Get out while you can.


Greg Canavan+
for The Markets and Money Australia

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Greg Canavan is a Contributing Editor at Markets & Money and Head of Research at Port Phillip Publishing. He advocates a counter-intuitive investment philosophy based on the old adage that ‘ignorance is bliss’. Greg says that investing in the ‘Information Age’ means you now have all the information you need. But is it really useful? Much of it is noise, and serves to confuse rather than inform investors. And, through the process of confirmation bias, you tend to sift the information that you agree with. As a result, you reinforce your biases. This gives you the impression that you know what is going on. But really, you don’t know. No one does. The world is far too complex to understand. When you accept this, your newfound ignorance becomes a formidable investment weapon. That’s because you’re not a slave to your emotions and biases. Greg puts this philosophy into action as the Editor of Crisis & Opportunity. He sees opportunities in crises. To find the opportunities, he uses a process called the ‘Fusion Method’, which combines charting analysis with more conventional valuation analysis. Charting is important because it contains no opinions or emotions. Combine that with traditional stock analysis, and you have a robust stock selection strategy. With Greg’s help, you can implement a long-term wealth-building strategy into your financial planning, be better prepared for the financial challenges ahead, and stop making the same mistakes that most private investors do every time they buy a stock. To find out more about Greg’s investing style and his financial worldview, take out a free subscription to Markets & Money here. And to discover more about Greg’s ‘ignorance is bliss’ investment strategy and the Fusion Method of investing, take out a 30-day trial to his value investing service Crisis & Opportunity here. Official websites and financial e-letters Greg writes for:


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