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HomeQuantitative Easing? Welcome to Vegas!!
Posted by Larry Doyle on March 19th, 2009 9:07 AM |
The Federal Reserve has ZERO room to maneuver on its interest rate policy given the fact that its interest rate tool, the Fed Funds Rate, is currently set at 0-.25%. Could that rate be set at a negative level? Well, let’s just say that it has never happened with any central bank in the world. With no more arrows left in its interest rate quiver, what is a Federal Reserve to do to manage an economy? Let’s enter the world of “quantitative easing.”
Quantitative easing by any central bank is a policy in which that bank grows its balance sheet to purchase assets (government bonds, mortgage securities, government agency debentures, etc). The purpose of purchasing these assets is to drive the prices for these assets higher which in turn brings the interest rates on these assets lower (bond prices and interest rates on those bonds have an inverse relationship). The hope the Federal Reserve holds is that in bringing rates down (government rates and mortgage rates dropped by .3% to .5% yesterday) consumer and institutional demand for money will go higher and spur the economy in the process. (more…)
The Fed Levers Up
Posted by Larry Doyle on March 18th, 2009 6:30 PM |
When the economy experiences a massive delevering process, the void in the economy needs to be filled. There has been and will continue to be ongoing debate about the effectiveness of the stimulus plan, Obama’s proposed budget, ongoing government bailouts of a variety of industries, and moves made by the Treasury and Federal Reserve. Has enough been done? Is too much being done? Are our global partners pulling their weight? Are protectionist measures likely to exacerbate our economic problems? The answers to these questions will not be known for years.
Today’s action, Fed’s New Steps Shake Up Markets, is a sign that as everybody is delevering (selling assets purchased with borrowed money), the Federal Reserve is levering up. The Fed has indicated they will purchase billions more than previously advertised in U.S Treasury securities, mortgages, and consumer related assets. Why? By making these purchases, the Fed will attempt to drive the rates for these products lower and reignite consumer and institutional demand for credit. The market responded in startling fashion as 10yr government rates dropped an unprecedented .50% !! Equity markets responded by moving higher by 1-2%. (more…)
AIG and LTCM
Posted by Larry Doyle on March 18th, 2009 3:50 PM |
A precursor to the turmoil roiling our economy and markets today occurred on a smaller, but certainly very dramatic, scale in 1998. The meltdown of the hedge fund Long Term Capital Management brought the market to its knees at the time. LTCM was effectively taken over by a consortium of Wall Street banks at the behest of New York Federal Reserve Chairman, William McDonough. The firms injected approximately $3 billion dollars in order to stabilize LTCM and then unwound it in an orderly fashion.
The lessons learned in the LTCM crisis were obviously not learned well enough because we are experiencing them again a multiple hundred fold. The centerpiece of our current fiasco is AIG (known here at Sense on Cents as “Ain’t It Great”).
The dramatic story of Long Term Capital Management is captured in a book I strongly recommend for anybody interested in the history of the financial markets. When Genius Failed, by Roger Lowenstein, is a great read and truly captures the intrigue, egos, and tension of that period. As the current turmoil unwinds I look forward to the books published on this period as well. (more…)
Housing Index Revisited
Posted by Larry Doyle on March 18th, 2009 1:11 PM |
A week or so ago, I introduced two indexes that track the outlook for housing in our country. The S&P/Case-Shiller Index is released on a monthly basis. The ABX is an index that can be traded daily by institutional money managers and thus allows them to reflect their opinions on the outlook for housing. The ABX is a very broadly defined index that tracks housing by the underlying year of origination of the mortgage.
Yesterday, the monthly housing starts number surprisingly jumped 22%. The government program TALF (Term Asset-Backed Lending Facility) to restart the consumer finance markets is set to launch next week. Hopefully that program will bring added liquidity to our consumer finance markets and support housing as well. The mortgage modification program to support housing is underway. (more…)
St. Patrick Smiles on the Market!
Posted by Larry Doyle on March 17th, 2009 5:34 PM |
When trading bonds, I used a rule that Tuesday’s price action often reversed Monday’s. While that rule of trading was strictly a quirk based upon years of experience, I found it happen so regularly that I never discounted it.
Supported by a surprisingly strong housing starts number (+22% to 583K) and a relatively mild increase in PPI (producer price index) of .1%, the market opened relatively flat today but firmed all day right into the close. The major stock market averages closed up 2.5%-4%!! (more…)
Market Fades on the Close
Posted by Larry Doyle on March 16th, 2009 6:30 PM |
Monday’s price action in the equity markets was particularly interesting. The market opened firm, up approximately 1%, and continued to trade with a very firm tone all day. What precipitated the strong tone? Fed chair Ben Bernanke was interviewed on 60 Minutes last evening. On that show, Bernanke Defends Recovery Efforts in Rare TV Interview.
First and foremost, it is very uncharacteristic for anybody from the Fed to consent to an interview targeted at a general audience. I view this as Bernanke trying to make the case for himself, the Fed, and the economy during these challenging times. In fairly short order, Bernanke has gained significantly greater credibility than his colleague, Secretary Geithner. Bernanke also spoke well of the economy turning around later this year IF the financial system recovers. That is a mighty big IF!! (more…)
Let’s Meet David Darst
Posted by Larry Doyle on March 14th, 2009 6:00 PM |
David Darst may not be a household name for the general public, but for those involved in the world of finance he is held in very high regard. In fact, I think so highly of David that in the Sense on Cents Reading Room, I included his book:
The Complete Bond Book: A Guide to All Types of Fixed-Income Securities
by David Darst
– the Wall Street insider’s Bible to all types of fixed income securities.
David was interviewed yesterday on Bloomberg News. He touches on issues I have recently addressed here at Sense on Cents. I appreciated his commentary on the fact that the equity market rally this week was a “psychological” bounce in the context of a bear market. I addressed the particulars of the current market psychology in my piece, Is the Market Oversold? UPDATE.
Darst also offers enlightening color on overall market outlook, inflation, and places to hide amidst this turmoil. I know you will not be disappointed in viewing Morgan Stanley’s Darst Sees Psychology Driving Stocks. It’s a 5 minute clip from a man with a lifetime of experience!! I am happy to bring it to you as we collectively navigate the economic landscape.
LD
The Global Economic Horizon
Posted by Larry Doyle on March 14th, 2009 2:45 PM |
While there is nothing like a nice 10% rally in equity markets to salve a wounded soul, let’s not get overly ebullient. The global economy is facing a host of issues the likes of which it has not seen in a long time, if ever.
I truly relish the honest perspectives offered by a number of our Thought Leaders. A recent piece posted by Professor Ken Rogoff, a former chief economist for the International Monetary Fund, and currently a professor of Economics and Public Policy at Harvard, lays out a logical road map for global interest rates, economic growth, sovereign defaults, and inflation. Let me preface Rogoff’s piece by stating the road will be long and steep!
What does Rogoff think about the prospects here in the United States under the Obama administration? He writes, “US long-term growth could be particularly dismal, as the Obama administration steers the country toward more European levels of welfare assistance and income redistribution.”
I strongly recommend Rogoff’s What is the Deficit Endgame? Please access a wealth of other global perspectives at the Thought Leaders link (in the left sidebar), which provides access to leading global economists and over 400 periodicals from around the world.
LD
Is Your Broker Working For You?
Posted by Larry Doyle on March 13th, 2009 3:01 PM |
The biggest secret in the money game is the manner in which people are compensated. Why is this compensation process such a secret? Very simply, if the general public understood the compensation process they could then understand the motivations of those managing their money.
At the institutional level, Wall Street typically pays people on a salary plus bonus format. The salary often would represent only 20% of the overall compensation. The bonus would be tied to individual, group, division, and company performance. The bonus would typically be paid 2/3rds in cash and 1/3rd in stock. That stock component would typically be paid out over a three to five year time frame, thus tying the individual to the firm. That lockup is known as “the golden handcuffs.”
Under this format, people are motivated to maximize profits in order to maximize compensation. In maximizing profits, however, inordinate residual risks have often been left on the banks’ books. Thus, the risk/reward model has been skewed. Expect the Wall Street compensation model to change to address this issue going forward. (more…)
