Category: Ben Bernanke

Fed officials give their imprimatur to stock market bubble


Last Friday former Fed chairman Alan Greenspan gave support that the 4-year bull market in stocks has room to run:

And right now, by historical calculation, we are significantly undervalued.  The reason why the stock market has not been significantly higher is there are other factors compressing it lower.  But irrational exuberance is the last term I would use to characterize what’s going on at the moment.

On March 4, Fed vice-chair Janet Yellen assured investors:

At this stage, there are some signs that investors are reaching for yield, but I do not now see pervasive evidence of trends such as rapid credit growth, a marked buildup in leverage, or significant asset bubbles that would clearly threaten financial stability.

And on February 26, chairman Ben Bernanke gave stocks his stamp of approval:

I don’t see much evidence of an equity bubble.

Not to question these all-knowing masters of the universe, but there does seem to be a trifle of evidence to the contrary, that perhaps their zero interest rate policy (ZIRP) has stampeded savers into anything hinting at a yield.  Exhibit A: Over $1 trillion has poured into bond funds over the past 4 years (out of money market funds).  Exhibits B and C: Junk bond yields are at record lows and margin debt near record highs.  Exhibit D: Total credit market debt is a record $56.1 trillion (352% of GDP) compared to $49.8 trillion (also 352%) at the top of the credit bubble 5 1/2 years ago.

After the tech bubble burst, The Maestro admitted that when it came to detecting bubbles investors were on their own:

We at the Federal Reserve considered a number of issues related to asset bubbles–that is, surges in prices of assets to unsustainable levels. As events evolved, we recognized that, despite our suspicions, it was very difficult to definitively identify a bubble until after the fact–that is, when its bursting confirmed its existence.  (August 30, 2002)

Five years later those words proved prescient (one of the few times) as the Fed-heads missed the housing bubble and failed to recognize how it had metastasized into a full-blown credit bubble.  While still at the helm of the Fed, Greenspan weighed in on his 6-year experiment to contain the bursting tech bubble (which he failed to see coming):

Most of the negatives in housing are probably behind us.  (October 26, 2006)

Right before the subprime bubble burst, Janet Yellen was oblivious to any impending trouble:

I’m waking up less at night than I was [over the slowdown in housing].  So far, there’s been remarkably little effect on the rest of the economy.  (February 21, 2007)

After taking the reins at the Fed, Bernanke did his own Alfred E. Newman impersonation:

We do not expect significant spillovers from the subprime market to the rest of the economy or to the financial system.  (May 17, 2007)

The Federal Reserve’s crystal ball does not do asset bubbles.  When its wizards begin to feel they possess such power (that is, denying the presence of a bubble), contrarians take notice.

Were friends of the Fed tipped off?

According to an article on Bloomberg today, a phone call from none other than Robert Rubin to Ben Bernanke in early August set in motion a series of private sector conversations that culminated in the surprise discount rate cut on August 17:

The Federal Reserve’s Aug. 7 decision to keep interest rates unchanged set off a chain of high-level discussions with Wall Street executives, money managers and cabinet officials that culminated in Chairman Ben S. Bernanke’s public about-face 10 days later, according to records of his schedule.

Starting with a phone call from former Treasury Secretary Robert Rubin the day after the August rate meeting, Bernanke’s appointments included Lewis Ranieri, founder of Hyperion Capital Management Inc., and Raymond Dalio, president of Bridgewater Associates.

Of course, Bernanke also consulted with Hank Paulson:

Bernanke was also in frequent contact with Treasury Secretary Henry Paulson, who said in an interview last month that he meets the chairman regularly.

Hmmmm. Let’s establish a time line here, keeping in mind Rubin and Paulson are ex-Goldman Sachs CEOs in direct communication with the head of the Fed…

Aug. 7 – The Fed stands firm, keeping rates unchanged.

Aug. 8 – Rubin calls Bernanke.

Aug. 9 – Bernanke calls some Wall Street bigwigs including Ray Dalio at Bridgewater Associates, the 4th largest U.S. hedge fund with $32 billion under management (Dalio is personally worth $4.0 billion according to latest Forbes 400). The WSJ reports, “the Fed twice entered the market today to pump a total of about $24 billion of liquidity into the system, more than its typical daily open-market activities.”

Aug. 10 – A Goldman Sachs “quant” hedge fund, Global Equity Opportunities, suffers a brutal week, losing about 28% of its value to $3.6 billion. Its North American Equity Opportunities fund and Goldman’s flagship, Global Alpha, are also taking significant losses.

Aug. 13 – Goldman Sachs injects $2.0 billion into its Global Equity Opportunities fund. The company is joined by a group of big-name investors, including AIG’s Hank Greenberg and Eli Broad, who pony up $1 billion. (Greenberg, 82, is worth $2.8 billion; Broad, 74, is worth $7.0 billion.) Goldman reportedly cuts its fees to entice investors.

Aug. 16 – In a wild day, the Dow rallies back to unchanged in the final hour to 12,846 after being down nearly 400 points intraday.

Aug. 17 – Before the market opens, the Fed drops the discount rate by 0.50% to 5.75%, timed on an option expiration Friday for maximum bullish effect. The Dow rallies 233 points to 13,079. Global Equity Opportunities rises 12% for the week.

Aug. 31 – Global Alpha loses 22.5% in August, its worst month ever. Year-to-date, the fund has lost a third of its value. According to Bloomberg, “Investors last month notified… Goldman, the most profitable securities firm, that they plan to withdraw $1.6 billion, or almost a fifth of the fund’s assets as of July 31… Global Alpha will have to return 80 percent before the managers can resume collecting 20 percent of investment profits from clients who were in the fund at the beginning of last year.” Global Equity Opportunities finishes the month down 23%.

Sep. 14 – Global Equity Opportunities is reportedly down 1.9% so far for the month. Global Alpha is down 2.8% (and off 46% from its March 2006 peak). “People aren’t going to keep suffering losses,” said Brett Barth, a partner at New York-based BBR Partners, which invests in hedge funds. “These funds are supposed to do well with risk management. Something has gone badly awry.”

Sep. 18 – The Fed surprises the market with 0.50% cuts in both the fed funds and discount rates. The Dow rockets 336 points, its best day in 5 years, to 13,739.

Sep. 20 – Goldman reports much better than expected 3rd quarter results. Trading and principal investments revenue was $7.6 billion, up 21% from the 2nd quarter and up 73% from a year earlier. “The numbers are great,” Glenn Schorr, an analyst at UBS AG in New York, wrote in a note to investors today. The earnings demonstrate Goldman’s “ability to not only navigate choppy waters, but make a ton of money doing so,” he said.

Oct. 3 – Goldman Sachs stock hits an intraday high of 230.63, up 46% from its mid-August lows and within 2% of its all-time high.

It is no secret that Goldman Sachs has plenty of friends in high places. It is no secret that the company, as well as the rest of Wall Street, was on the ropes in August. In mid-August, politically-connected Hank Greenberg wrote a big check and a week later he was 12% in the black. By the end of August, the firm reported its second best trading results ever. All along, those friends seemed to be doing everything in their power to rescue them.

Is it a stretch to imagine this is more than mere coincidence? Was Goldman and some of its cronies privy to what is essentially inside information? Where is the outrage?

Lew Rockwell is right: politics – especially when applied to finance – is a rich man’s game.

Grading the Bernanke Fed

Here is the Fed’s report card since attempting to preempt asset deflation on August 17th with a surprise 50 basis point rate cut in the discount rate:

Lowering long-term borrowing costs: D
– 10 year Treasury yield: -0.02%
– 30 year Treasury yield: -0.10%

Saving the homeowner: C-
– Countrywide Financial: +0.3%
– Fannie Mae: -6.7%
– Housing Index (HGX): -2.7%

Bailing out banks and Wall Street: B-
– Banking Index (BKX): -0.4%
– Broker/dealer Index (XBD): +8.2%

Encouraging speculation: A
– S&P 500 Index: +8.2%
– Nasdaq 100 Index: +13.3%

Fanning the flames of inflation: A+
– Gold: +13.7%
– Crude oil: +16.7%
– CRB Index: +10.7%

Trashing the dollar: A+
– Trade-weighted U.S. Dollar Index: -4.8%

Congratulations, Ben. You’ve just earned your honorary degree from the Greenspan School of Monetary Madness. You are a quick study and more than worthy of the distinction.

Fleckenstein: Bernanke is the anti-Robin Hood

On MSN Money, Bill Fleckenstein explains how the Bernanke Fed is stealing from the poor to bail out Wall Street’s fat cats.

Bernanke’s printing press drives gold stocks to all-time highs

U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.

Since Ben Bernanke gave his fateful deflation prevention speech on November 21, 2002, the Greenspan/Bernanke Fed has succeeded beyond its wildest dreams. The value of the dollar has dropped 26%, commodities – as measured by the CRB Index – have risen 44%, and gold has vaulted 130%. Corn is +52%, silver +200%, and crude oil +205%. Meanwhile, the official measure of inflation, the CPI, is only up 14.9% (+3.0% per annum).

Let’s review their combined track record:
  1. Preventing deflation: Commodity prices for American consumers have risen 8.1% per year, for foreigners just 1.4%/year.
  2. Keeping inflation expectations contained: Official inflation is only up 3.0%/year, even less after subtracting volatile food and energy prices. The 10-year TIPS spread shows fixed income investors expect CPI reported inflation over the next 10 years of just 2.31%, up from 1.64% in November, 2002.
  3. Keeping asset inflation stoked: The investor class is happy, with the S&P 500 up 64%, or 11.2% per year.
  4. Lining the pockets of their banking constituents: The total return for bank stocks is roughly 10% per year, while the total return of brokerage stocks is about +23%/year. The Bernanke Fed in particularly has done everything in its power to rescue Wall Street and the commercial banks from their ill-conceived investments.
Great job, guys. But before you accept your Central Banker of the Century awards, you might want to pay closer attention to 27-year highs in gold prices and inflation creeping into every nook and cranny except where you most need it – in real estate prices. Right now, inflation expectations are contained. (For example, the Rydex Precious Metals Fund has experienced a steady stream of outflows the past 4 years, despite the recent breakout in gold stocks. See graph below.) But what happens as investors begin to wake up, as they inevitably will? You are in a box. Lower short-term rates and you unleash inflation expectations, driving up long-term rates and ultimately short-term rates. Do nothing – your best course of action – and you let your banking cronies suffer the consequences of their recklessness, ineptitude, and fraudulent behavior of the past 7 years.

We wish you well.

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