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Wednesday, April 22, 2015

Fed Rigs the Market - Investors Face Moral Choice...Sell Their Soul to "Profit" or Risk Loses to Save Their Soul?

Let's be blunt.  The Federal Reserve is a parasite feeding on the host, the American people and the American economy.  Those benefitting from the parasite are few but influential; large banks, corporate leaders, and very wealthy individuals.  The Fed's 100+ years of free-market interventionist activities has weakened and depleted it's host so seriously that absent the Fed's continued interventions, the host questions if it can survive.  The Fed has weakened America to the point that nearly any "corrective" action taken to resolve the economic imbalances involves only greater, not lesser, governmental and Federal Reserve activity.

The Federal Reserve has a legacy of creating economic imbalances that only greater Federal Reserve action can creating even greater imbalances.  Because of the severe imbalances now evident across the US (and global) economy, any politically viable discussion of returning to a "free market" is simply out of the question.  The impacts of allowing a "free market" to set prices would be so serious in the short and likely mid-term that it is politically DOA; even more so than touching social security or Medicare.  Congress and the Fed's willingness to support and encourage the formation of "too-big-too-fail" and then their unwillingness to allow these same bad actors to fail...because they are too big...well, it destroyed the premise of free market capitalism. 

Likewise, over the course of the Fed's history it has shown a growing unwillingness to allow "free market" business cycles complete with growth followed by a cleansing recession.  This has led us to such an imbalance that only the Fed's poison of more meth-like intervention can keep the economy alive...but leave it so sick and strung out as to be unrecognizable to those who knew it when it was a vibrant and moral global force.

Specifically, I'm talking about the Fed's ongoing interference in the bond market, the largest market of all.  For without the Fed's continued ZIRP (zero interest rate policy) and the Fed's activities in the bond market (more on that below), the bond market would reset with consequences across the US and global interest rate sensitive economies of the world (wiping out those with too much debt and all asset prices pinned on continued ZIRP).  The interest rate quake would create tsunami's slamming the equity and real estate markets.  The baby boom generation rich with assets but cash poor would be selling into collapsing markets.  Underfunded social safety nets would be entirely undone.  Currencies would also be deeply impacted and resets abound.  Standards of living would be redefined.

These aren't opinions but simple mathematical facts.  Let's review the impact were the Fed to commit to a single hike but more likely signaling a cycle of rate hikes.  Even a modest reset of the US Treasury market to higher rates would mean the largest holder of public debt, "foreign holders" holding just shy of 50% of all $13+ trillion in Public Treasury debt, would be assured of taking losses on their bond holdings if held through the rate hikes.  Typical "investors" sell off assets (Treasury's in this case) in advance of changing fundamentals to lock in their gains and avoid the losses on their existing portfolio's.  Likewise, the Domestic public (primarily US based institutions like insurers, pensions, banks, and some retail buyers) holding 34% of the debt would act similarly except they generally hold the shortest duration bills and short term notes.  The domestic public would be less harmed than the "foreign" holders who have a more intermediate duration.  Noteworthy is that the Federal Reserve which holds the bulk of it's portfolio in the longest duration Notes and Bonds, would see the largest losses unless the bonds are held full duration (costs of balance sheet normalization would be really big!).

Were the Fed to simply signal it was committed to raising rates, the impact would be felt immediately.  "Investors" holding winners would sell.  This would send rates higher (a flood of sellers would be met by a trickle of buyers effectively pushing the rates buyers demand straight up).  Selling would beget more selling...rising rates causing further rising rates.  In short, the bond market supernova so many have feared would come to fruition.  The US interest payments on it's Treasury debt would skyrocket.  Buyers would have to be incented with rates so attractive they were willing to sell off their existing portfolios and rotate to US Treasury's.  A return to just the 50/yr average for US Treasury debt of 7% would cost the US government about $1.3 trillion annually...or nearly 50% of all federal tax revenues.  The "bond-mageddon" would be upon us.

Foreign holders turning from a huge net buyers to significant net sellers coupled with the cessation of Intragovernmental buying (due to the lack of SS surplus') leaves only two buyers...and the Federal Reserve itself which is supposedly looking to normalize (shrink) it's balance sheet by trillions.  So, the Domestic Public would be left to buy trillions in new and existing unwanted Treasury debt.

What I have described above is what would happen in the event of a "free market".  And this is exactly what many feared upon the announcement of the Fed's taper from QE in 2013.  Nearly 100% of economists forecast rates would rise without the Fed's $85 billion monthly QE.  However, although the largest "foreign holders" (the BRICS led by Chinese and Russian selling) did sell as anticipated, new and strange "foreign" buyers stepped up.  Japan running trade and budget deficits plus Belgium, Luxembourg, Ireland, Carribean Banking Centers (aka, Cayman Islands), & Switzerland (aka, BLICS) stepped in for the receding BRICS as I outlined here...  100% of economists were wrong as rates didn't rise but instead collapsed in the US and across advanced economies.  US rates fell 50%, German rates fell 90%+, and PIIGS rates fell from 70% to 90% as well.  How had economists gotten it so wrong???

Let's start with a simple look at the scene of the crime, the US Treasury market, and review what happened.  Massive bids from off-shore, untraceable financial centers for bonds with swooning rates more than made up for the selling in nations that were running record dollar trade surplus'. 
And that's were it ends.  Although it's un-provable, the Fed had means, motive, and opportunity to intervene (rig the market) via foreign locations to avoid a "free market" reset.  The Federal Reserve's history has shown it believes it knows better than any "free market" what the price of Treasury's (or assets in general) should be.

This rigging is the premise of our present "bull market" and bubble prices across the economy.  It is what forces many to disdain and avoid the markets for the fraud they are.  It is also what draws many to them as the rigging makes for easy pickings for those without the moral cares.

America must decide what America is about and determine if the parasite that is the Fed can be terminated.  Ultimately, talk of abolishing the Federal Reserve should be analogous to reinstituting the free market and the American people over Federal Reserve directed socialist crony-capitalism.


  1. One. Very good insight and analysis. Two. We have gotten to the point that now I merely pose this question to people. Will this end good or bad? Most people I ask have finally seen the writing on the wall. For most it does not look good. I see it everyday in all different classes of ordinary folks. The tide is turning down.

  2. Sorry to repeat...
    but a very good analysis of the current situation.
    Thank you Chris!

  3. Since 2007/8 each Fed & gov action has been to maintain the bond market, delay defaults and maintain confidence in their centralised control systems. As Chris points out, the situation is deteriorating. However, the great unwashed aren't panicking yet. Do the masses actually care if the Fed or their own Bank is solvent? No, they don't care. So, we carry on. Do governments need to be solvent? Not if the masses are unconcerned.

    So when does the system crash? Not until the masses panic and then the panicking masses crash the system. What triggers the panic? Perhaps Kim Kardashian complaining about a healthcare cost. It could be anything, it needn't make sense.

    Eventually, people tire of panicking and we carry on. Somethings will have changed and others won't. Logic and analysis of what should be done will likely be ignored.

    The financial changes could be dramatic, even hyperinflation is possible. However, a deflation seems most likely. Leading to defaults, bankrupcies and more defaults. Then zero percent government treasuries will look enticing. if it doesn't, the government will likely use any necessary force to ensure the public buy it and elderly sell it at government controlled rates, for your own good. 😉

    The reserve currency status has destroyed the USA. Or more precisely, abusing the privilege has destroyed them. Should have stuck with gold as the rebalancing occurs quickly and naturally. Rather than have this current mess and the increasing chance of rather abrupt changes to lifestyles and standards of living.

    I expect the world will notice the USA huge military and allow you to spend down your gold at eye wateringly high prices. The masses may not care about deficits and debts but they might notice changes in gold holdings and how soon you may run out! If this conceit isn't allowed then I expect WWIII, U.S. vs everyone else.

    The US currently values its gold at $42.22. I expect that will be revised upwards when the panicking goes global. Nothing soothes a financial panic like lots of gold, zero counter party risk!

    Sorry to waffle on but I am now done. Thanks to Chris for his clarity and efforts.

    1. David,

      thanks for your thoughts and pretty well concur...your point on Nixon, in another thread, reminded me of a point I wanted to make about his caveat in that speech...and inspired my new article. Thanks again.

  4. You left out stocks.

    There's a strong argument that the Fed/exchange stabilization fund/Treasury is propping up the stock market.

    You don't really believe the weird upward action in the stock market the last 6 years is just due to HFT... do you?

    1. You can't say Actually, so many "normal" folks are so removed and disconnected from what is being done to rig and boost the system that they simply can't conceive of what has become the daily farce (yes, almost surely including stocks although I can only show buybacks, corporate taxes rates collapsing, central bank buying elsewhere, and can only surmise there is a PPT or like domestically that ensures every down has a bid to turn it around.


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