We always believe it’s good to hand out awards to people who deserve it. Whether it’s for doing good things or bad things, we believe they should receive an award to recognize their “achievement.”
In this instance, the newly inaugurated “No —- Sherlock Award” goes to the US Federal Reserve’s Federal Open Market Committee (FOMC). Like the board of the Reserve Bank of Australia (RBA), the FOMC is responsible for making interest rate decisions for the central bank.
And last night the FOMC released the minutes of its November 3-4 meeting, which contained the following, hehem, wonderful lines:
“Members noted the possibility that some negative side effects might result from the maintenance of very low short-term interest rates for an extended period, including the possibility that such a policy stance could lead to excessive risk-taking in financial markets or an unanchoring [sic] of inflation expectations. While members currently saw the likelihood of such effects as relatively low, they would remain alert to these risks.”
Really? How surprising. Who would have thought that giving away free money would cause “excessive risk-taking”?
But it’s obviously a conclusion that any old newsletter writer, or anyone with an ounce of common sense could come to.
However, it seems to have taken the FOMC’s nine PhD’s more than a year to figure this out.
With quick minds like that in charge of interest rate policy it’s no wonder the US economy is being stuffed faster than a Christmas turkey.
The issue of excessive risk taking is something we’ve written about all year. Even as bankers and policy makers were talking about deleveraging we knew it was all a hoax.
Let’s set the record straight, there has been no deleveraging and there will be no deleveraging – well, not until the brains trusts at the central banks and in government have finished creating the next Great Depression.
In fact, from what we can see there is more leveraging than ever before.
So, seeing as it’s taken the FOMC twelve months to admit that low interest “could” lead to excessive risk taking, you should view their judgment about the “relatively low” likelihood of this becoming a problem as a genuine warning sign.
It’s this blinkered view from the so-called experts that makes investing in precious metals all the more compelling.
I touched on this yesterday when we considered whether a rising gold price was sustainable. Our conclusion was that it is, primarily due to the increasing money supply globally – including here in Australia.
But I’m going to have to break a promise I made yesterday to cover the Australian gold price today. Because it’s worth looking again at the zero effective yield being received by investors in US bonds.
Once I’ve got this out of the way I can then address the Australian dollar price of gold tomorrow.
Anyway, yesterday afternoon, the editorial team got together for a pow-wow. We were trying to figure out why on earth an investor would exchange cash for an investment that will provide no real return over a three month period.
When you think about it logically it just doesn’t make sense. If we think about this on an individual, small-scale level, what could be a reason for you taking cash out of the bank and giving it to someone in exchange for another piece of paper (a government bond) which will only guarantee you the return of your initial cash?
If we strip it back to the really basic level then arguably you would do it if you thought the government bond was more useful to you than cash.
So, what uses does a government bond have that cash doesn’t?
Well, if we take the theory back to the institutional level, for institutional investors in the US, a government bond is safer than holding cash in a bank. Bank deposits are only guaranteed by the Federal Deposit Insurance Corporation (FDIC) up to a maximum of $250,000.
So the only real alternative for an institution is for a ‘cash like’ asset which they assume to be even safer than cash. Surely the US government couldn’t possibly renege on its obligations to redeem the bonds for cash on maturity!
But what about inflation? Don’t forget that most of the Muppets in institutional investing have either been brainwashed into thinking inflation is a non-starter, or, well, they just don’t care – it’s not their money after all.
Besides, for the big banks trading cash doesn’t generate commissions whereas trading in and out of bonds does.
Do you remember the results from Goldman Sachs? Much of their ‘profits’ from 2009 were gained thanks to their trading desk.
And that’s the key to this. It links right back to the blinkered view of the FOMC and their belated non-warning about excessive risk taking.
US treasury bonds are being used as an instrument of excessive risk.
It would seem there are two ways they can do this. First, they can trade the bonds and the bond futures multiple times to generate big returns on even the smallest market movements.
Naturally, the smaller the movement in price, the bigger the exposure required to generate returns. And with interest rates being pushed lower and lower with no expectation of the Fed increasing rates, the movements on a daily basis are miniscule.
If you click here you can compare the movements of the Fed Funds Rate in recent months compared to movements over the longer term.
Don’t forget, this rate is the basis for all other interest rates. If the Fed Funds Rate is barely moving then interest rate traders have to leverage themselves up a whole lot more if they want to maintain their trading profit levels.
And that leads neatly onto the other reason for the appetite for US treasury bonds. Typically a treasury bond is afforded the status of being the least risky asset class by lenders.
Therefore if you want to leverage yourself up as much as possible it’s only natural that you’ll want to fill your balance sheet with as many “low risk” assets as possible.
The lower the risk, the more you’ll be able to borrow against them.
And even better, why not borrow against treasury bonds in order to buy more treasury bonds which you can then use as margin for even more treasury bonds.
After all, as far as the banks are concerned, what’s the odds of a big movement in treasury prices leading to a margin call compared to a big movement in the price of stocks?
For now it’s not very likely. But as with anything, the greater the perception of safety in an investment, the greater the demand for it becomes. And the greater the demand the further the price moves away from fair value – creating a bubble.
In other words, the paradox of investing safely is in this instance creating the mother of all asset bubbles.
The Fed’s standpoint that low interest rates “could” create excessive risk taking is akin to saying a 10 tonne weight “could” crush an egg.
Cheers.
Kris.
60-Second Market Round Up
by Shae Smith
The S&P/ASX200 ended the day in the red, closing at 4,685 down by 32 points. The Aussie market has had a flat start after an ordinary session in Wall Street overnight.
The Dow Jones Industrial Average finished down 17 points to 10,433.71. Stocks fell early in the session after the third quarter GDP report showed that the economies growth was weaker than expected. Read more here.
In the UK, the FTSE100 closed to 5,323.98, lower by 0.59%. The Footsie dropped on the open on the back of news that China’s central bank is tightening its lending policy.
The Nikkei closed at 9,401.58, down by 96 points.
The price of spot gold in Australian dollars is trading at $1,270.84, while in US Dollars it is trading at $1,168.66. The price of silver in Aussie dollars is $20.15 and in US Dollars it is $18.53.
The Aussie dollar versus the US dollar is trading at USD$0.9195, and against the Japanese Yen JPY81.38
Crude oil closed at USD$75.82
For the biggest movers on the market yesterday click here…
{ 16 comments… read them below or add one }
And how exactly is this relevant to an Australian audience? What are the implications? What are the predictions? Will this make it more likely or less likely that Australian banks and property are going to crash? Oh, and when?
Anyhow, since this is unlikely to generate much excitement, may I propose a discussion on what is going on with the Liberal Party, the media and the ETS. As a kick off, I would like to make the following observations and comments, and would appreciate other people’s thoughts on the issues.
1. My take on the ETS includes the conclusion that it is a complete furphy, and it will do nothing by rip money out of our economy and our pockets. Krudd is a traitor to the nation. He is proposing to sell our interests out for only God knows what conceivable reason.
2. The Liberal Party is being hijacked by Turnbull and his hidden but powerful special interest group. They have plenty of money and political nous to put pressure on any individual politician who is either corrupt or weak kneed to make up the necessary numbers. Even though the Liberal Party had earlier reached a unanimous position to oppose the ETS, Turnbull and a handful of traitor Liberals went against the agreed and accepted party line with no consultation, and they are trying to blackball anyone in the party who dears to stand up to them. They may well succeed, for which the nation is going to pay dearly for generations to come.
3. The mainstream media, including the ABC and the SBS are completely captured by the political masters paying their wages, who in turn are, I would suggest, puppets of the said powerful interest groups. We are well on our merry way down the same captured garden path that we have been witnessing in Washington. Our very democracy is and freedoms, such as they are, are being hijacked. If the Liberal Party succumbs to this assault, even the will of the majority will be imperilled, as there is going to be no real choice to be made at elections. We will have the same disgusting beast with two heads, no different from what we see in the USA.
from wat i understand is the ETS tax scam being introduced in2020?
I completely agree with you cb. The question is, what can we do about it? And how do we stop the legislation for a change in the voting age – I thought something that important would have to go to a referendum. It seems that we now live in a dictatorship. It is the age old game of taking the money from the majority and giving it to the minority. Surely we could all gather together and do SOMETHING to stand up for ourselves. And we need to put the breaks on the mass imigration that Krudd has planned. We the people surely haven’t gone to sleep completely!?!?!
I am interested in this Kris – I just dont understand it all.
At a simple level – I understand that in order to prop up asset prices and keep the economy on life support, the US has signalled it will keep rates at basically at zero for most of 2010
So maybe this free money is pouring into bank stocks over here and that is why CBA is still over $50 and climbing. I heard some bank guru say their price should have been closer to $25….so if this carry trade could end abruptly, then I want to know anything I can that can help me time a good short on Oz banks
However I cant wait for tomorrow – surely Kris will give the RBA’s Ric Batellino a serve. I heard some of his speech and it makes me wonder if they have a clue about this stuff…and then Joye gets on there saying “we dont have expensive houses”
AND then a scandal gets revealed showing us climate sceptics were spot on to question whether the case was close on climate change debate, yet it ranks 5th in the news (behind whether Rann rammed some chick!)
This is groundbreaking news and should really make people stand up and htink about what is going on with this climate change issue.
yes, it is almost unbelievable that the ABC and SBS are not doing some serious investigative journalism either about the substantive issues, or about the corruption and horse dealing that goes on behind the scenes. Instead they keep showing melting ice walls and icebergs breaking off, and mindlessly repeat the alarmist warning of of climate change shills.
And, etch, 2020 is a date by which they want to achieve a certain reduction in CO2 levels, not the starting date. Baby faced Krudd, the little Hitler downunder, wants to start taxing us and the economy right away, collect the big money with which he will bribe the people who will re-elect him for the goodies he will selectively dish out, and also wants to be the first little t!rd to sign us up in Copenhagen, and commit, apparently, .7% or our GDP to a UN controlled climate change fund. I actually heard this accidentally on radio one day while Wilson Tuckey brought it up during parliamentary debate, but you would not hear about it being reported in the media, would you?
No, the sh!t media we have to have simply focuses on the shallow aspects of politics – far be it from them touching anything of substance. I am telling you, our key institutions have been infiltrated and captured, and what we are witnessing currently happening in the Liberal Party is the tip of the iceberg, as this nation’s last hope is taken down with 99% of the population not realising what in fact is happening. Shocking stuff.
Let me just summarise where we are at:
1. The RBA clearly not serving the interests of the nation. Ask any exporting business what the currency is doing to their business, and the RBA’s rate rises are clearly part of the reason, as it encourages hot money to come into the country through the carry trade. Well, it suits Wall Streeters, for starters, so that would be a good place to start looking for Glenn Stevens’s true allegience.
2. Babyface Krudd says nothing about the RBA’s rate rises, but instead puts his own foot on the borrowing accellerator even harder, which enables even more rate rises, which in turn will need more Krudd gas, which in turn will allow even more rate rises, which in turn will need even more borrowings to stimulate, and so on, until the nation is ruined through high interest rates and crippling debt.
Good job. Someone is bound to get a medal out of this.
3. The Liberal party, which had a clear agreement about opposing the ETS has now been hijacked and the ETS will be rammed through, damned be the consequences to the party and the nation. This means a massive tax, higher energy prices all round, and that flows into EVERYTHING: food, transport, consumer goods, manufacturing, you name it. And it will also be the last nail in the coffin for a lot of manufacturing businesses as well, who will either go broke, or take the jobs to China. There will have to be another medal for someone in this, too.
4. Oh, and I should not forget the Labour party, of course, who are going to force this obscenity on the people through lies and distortions, as well as sign a good chunk of our sovereignty away to the UN, with almost 1% of our GDP for good measure.
Does anyone feel like a serf, yet? No? Not yet? Don’t worry, it is coming.
There will be a revolt cb – the media have been able to keep all this rubbish away from people’s attention, but soon there will be plenty of us willing to shine light into the darkness
Its simply a lack of information and understand that is allowing the pollies get away with it all. There is a way to counter the media’s simplistic populism…simplistic populism (fight fire with fire).
So although this climate channge email scandal may be stirred up by the secptics for their own purposes, this is the exact kind of tactics that need to be used. I am tired of being rational and logical – people dont like rationality, they respond to analogies and bold value statements.
This is where we are heading – to a world where we try and out-dumb each other.
Kris,
I can understand why people are willing to go into government bonds. If people believe a crash is iminent then they pull out of stocks and commodities and return to cash.
But do you want to put your money in a bank or in the government ‘bank’? Who has the greatest potential to collapse – a bank or a government
I would choose the government bonds
PuntPal – I agree that the lack of information is the chief problem. With the mass media being captured and failing to inform and educate the people about what is being done to their interests, they have no chance of protecting their interests. Moreover, the mass media will overwhelm dissenting voices by bombarding the population with propaganda and misinformation and scare the people into inaction as their interests and prosperity is traded by the criminals for personal benefit. Given the way opposition to the ETS from the Liberal party has been de-fanged in full public view, without at the same time the public being informed about what really is going on, I am very pessimistic about our future. Instead of reporting it for the grave national crisis that the Liberal party’s plight now represents, the whole ETS question is being reduced to a media circus for popular entertainment. People will wake up and realise too late what this episode is really all about.
anybody the read the article from the former central banker in China. He claims that the Chinese economic model is unsustainable etc… then goes further to state that China should be compensated for losses on the USD!!!
a) they chose to buy USD so its their fault
and
b) how about the very simply fact that China would still be a backwater poverty stricken country if it wasn’t for the Americans!!!
“Yeah thanks America for pulling our country out of poverty because we couldn’t have done it without your consumers (literally)
Now about our money……”
GB – I will second that. The multinationals have a lot to answer for, I reckon. For making their obscene profits through the exporting of manufacturing and other industries’s jobs to CHINDIA, they have devastated the American heartland.
Not to mention, of course, the transfer of American knowledge and technology, along with entire factories with machinery to these countries. But don’t worry, it is nothing a good war is not going to sort out. So, China will need to watch its steps rather careful, as the US still has the big stick, even though its pockets might be empty.
But, as to what actually will happen and how things will play out, it will all be determined by the interests and decisions of the IBC. Hardly anything of importance moves anymore, it seems, without their endorsement.
http://www.elliottwave.com/freeupdates/archives/2009/11/09/Video-Prechter-on-CNBC-2008-Was-a-Warm-Up.aspx?code=cg
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