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If the supply of dollars (e.g., M2) is growing at an unprecedented pace (25.7% annualized over the past three months) and the reserves required to support a huge increase in bank deposits are literally exploding (up at a 96% annualized pace in the past three months—see top chart above), but the value of the dollar is rising (see bottom chart above), what can we infer about the demand for dollars?
That's easy: the demand for dollars is outstripping even the exploding supply of dollars.
If the interest rate on 3-mo. T-bills (the worlds preeminent risk-free asset) is effectively zero (see above chart), and the yield on 10-yr Treasuries is at historically low levels, what does this tell us?
That's easy: the demand for safety is extreme, and the price of safety is extremely high.
If the price of gold is at all-time nominal highs, and very close to all-time inflation-adjusted highs, measured against any currency on the planet, what does this tell us?
That's easy: markets are willing to pay an extremely high price for an asset that can't be debauched by politicians or central banks. No one gets the benefit of the doubt these days.
And what does all this tell us?
One: If the supply of dollars is not rising faster than the demand for dollars, then this is not an inflation story that is unfolding. The Fed is not making a mistake. In fact, the Fed has been preemptively supplying plenty of liquidity to the banking system, and that's exactly what the banking system has needed.
Two: If the demand for dollars and the safety of T-bills and gold is huge, there must be something out there that is scaring the bejeesus out of the world's capital markets. As I've been detailing in recent posts, everything points to the Eurozone sovereign debt crisis as the proximate cause for the panic that has overtaken markets in recent weeks. Governments all over the world have grown too big, too fast, and they have squandered the proceeds of all the debt they have taken on; the Eurozone is just the first to be forced to come to terms with this reality.
Three: If there's one big thing lacking right now in the world, it is leadership. The Greeks need to shut up, grow up, and tighten their belts, or just admit that they are scoundrels and default. The ECB needs to stop trying to bail out the slackers in the eurozone, and maybe that means letting some banks fail; after all, bank failures are not the end of the world. Obama needs to channel Clinton and triangulate, and stop trying to blame the Republicans and the Tea Party for the results of his abysmal economic policies. California's Gov. Brown needs to just say NO to the unions and their demands for outrageous retirement benefits—let's have some public sector austerity, please.
22 comments:
How big (percentage) is the Greek debt compared to the size of the EU and American economies? Do you have the number handy? I bet it's no more than 4 percent.
John,
Off the cuff, the Greek debt is ~450 billion. US economy is ~14 Trillion. Euro zone economy is ~12Trillion. Add Swedwen, Poland, Switzerland, Norway, England, and the number approaches the US.
Apologies if these numbers are off some but I think they are close.
Thanks John, so we're talking 1.6 percent of the sum of the European and American economies. And that doesn't take into account Asian and South American economies that are also "at the table."
Amen. From your mouth to policy makers' ears.
Yes, Greece is scary, but what about California, which is an economic time bomb waiting to blowup the US -- California is also one of those "too big to fail" entities that the Federal Reserve delights in providing "secret" bailout funds -- we live in a world of monetary corruption and fiscal mayhem -- we should all hope for the best, but plan for the worst...
Scott -
So TBT becomes a reasonable investment around $15??
Amen! This is your best post summarizing the reality of the situation.
Thank you.
I echo Pub. Great post.
this is lehman redux. no one knows who has the bad assets. and the bad assets here are sovereign debt and cds and other derivatives written on such (and such and such). the problem is there is no "fed" to monetize the "bad" assets. thus the panic and fleeing from sovereing debt, those who hold it and those who hold those who hold it, etc.
you should grow up!
the solution is PERMANENT tax reduction FOR EVERYONE, gun the deficit through the roof thereby but shrink the "keynesian" side of gov. voila, a boom that sustains.
Thought this a particularly good post among many
Thank you
We pay huge pensions to all public employees, from your local dogcatcher to Armed Forces.
Gonna be a tough nut to crack.
Scott,
Is there anything that the average investor can do during these panics other than keep a lot of cash under the mattress? It seems more likely that Septi is right and this is Fall 2008 all over again where everyone stops dead in their tracks and we fall off the cliff again.
William,
My belief is that Congress would tell California to go pound sand. After this occurs, I believe the Fed will step in and bail them out by purchasing (monetizing) their debt. B.S. Bernanke will say it is needed for financial stability.
puffer: I would like to think that TBT is good investment at current levels.
Bill: being defensive (holding cash) is incredibly expensive these days, since you pass up the opportunity to earn significant incremental returns on a range of other assets. The safe havens don't yield anything, so they only make sense if you are convinced that everything is going to collapse. If you think that we might avoid a catastrophe, then this is the time to move out of cash.
"then this is the time to move out of cash."
And go where? A "range of other assets?" What's that? Are you saying the S&P is at bottom?
John,
No one can predict with certainty when any risk asset reaches a top or bottom. Investing with short time frames is difficult. Its sentiment and psychology that moves markets. Longer term valuation becomes more of a factor. An old saying is, short term the market is a voting machine, long term its a weighing machine.
I don't blame anyone for staying out of risk assets, regardless of valuations. Volatility has made it almost impossible for individuals to be equity investors. Levered ETFs and high frequency trading, coupled with thin markets and poor political leadership (from both parties) has driven most small investors out...and they are unlikely to return any time soon.
Yet, a good case can be made that this is an unusually good time to acquire high quality equities. Yield competition from MM funds and bonds is extremely low. Weak holders have been gone for a long time. Longer term buyers today are insiders, institutions with yield requirements, and companies buying in their own stock, and traditional value investors. None of these buyers are likely to chase prices up. They wait for the prices to come to them. IMO stock is slowly moving into stronger, long term oriented hands. And none of these investors know where the 'bottom' is.
I have been very slowly picking up shares in names I have owned for a long time. I have been beaten up by the panic selling but I do not believe a single company I have invested in is likely to cut their dividend. And the yields are high compared to cash and bonds. I followed the same plan last summer and the small positions I took then are profitable today, and still paying me to own them.
Sometime soon, the bull market in bonds will end, and institutions will be looking at declines in their bond valuations instead of gains. When that happens, they will look at equities differently.
My plan is not for everyone and I certainly don't bat 1000. But I like to 1) buy small...no big bets all at once. 2) buy on weakness..preferably after several days of declines, 3) buy QUALITY companies with decent and potentially growing dividends. 4) Be prepared emotionally for lower prices..stocks can ALWAYS go lower, and be prepared to WAIT. Right now stocks are wooly beasts to ride. But if you are earning a superior yield and you don't need your funds soon, relative to bonds, stocks should deliver high returns for many years.
For those who believe the world as we know it is ending, disregard the above and remain in cash, and/or gold. If you are right, you should come out ahead.
Good luck to all.
I like the dividend stocks too.
I think we are close to time to move out of bonds.
Greg Mankiw said a couple months back that yields could go down more, and he was right. But zero is zero after all.
Mankiw thinks the Fed needs to target higher inflation rates for a while. Probably he is right about that too.
If Bernanke listens to Mankiw, then it will be time to move out of bonds, and possibly catch a huge move up in real estate and equities.
Investors Intelligence Poll:
% Bullish: 38.7%
% Bearish: 37.6%
Approaching levels last seen in August 2010.
http://www.schaeffersresearch.com/streetools/market_tools/investors_intelligence.aspx
Joh:
Sage advice. Unfortunately the funds offered through my employer's 401k program doesn't allow much to pick from. Funds tend to be mixtures of the good, bad, and facing indictment.
I'm 92 percent cash allocated and will stay that way until firms start hiring again.
Be careful,John. Unemployment is a lagging indicator - not a leading indicator of the economy's direction.
Scott Grannis does an excellent job of demonstrating what is actually happening close to real time in the economy.
@ William:
Are capital markets also a lagging indicator?
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