The sovereign debt bubble continues to expand despite the proclamation by world leaders that everything is “fixed.” While we would agree that many, if not most, asset classes are essentially “rigged” by central banks, we doubt that anything will be fixed in the sovereign debt space without write offs and write downs or currency devaluation. Saddling the people with more and more debt as a solution to the debt crisis is simply not going to work in the long run in my opinion. Sure, deficit spending and money printing are obvious, sensible responses to economic contraction but at some point governments need to deal with the underlying cause of the problem without focusing on individual symptoms in a vacuum.
Banks like Goldman Sachs (GS) are being handed billions of dollars every day by the FED and are using this money to pump up stock prices, but how long can the charade last? This is short termism at it’s pinnacle, and all of this in-your-face nouveau-pumping may eventually be followed by a dump — either of paper currencies or of risky assets. Some of the banks receiving this money are arguably insolvent without receiving this massive intervention. Surely, their assets are not entirely liquid, and without a buyer of last resort, governments around the world have stepped up and taken out many dicey bank investments at the offer price. Obviously, this is a terrible moral hazard and stinks of “Banana Republic” finance, but until the unwashed masses figure out that credit default swaps are affecting them day to day, I doubt anything will be done to break up the mega-banks.
Here is some raw data on the Fed’s “pumping” from BusinessWeek:
“The Federal Reserve will amplify record accommodation tomorrow by announcing $45 billion in monthly Treasury buying that will push its balance sheet almost to $4 trillion, according to a Bloomberg survey of economists.
Forty-eight of 49 economists predict the Federal Open Market Committee will purchase Treasuries to bolster an existing program to buy $40 billion in mortgage bonds each month. The panel pledged in October to continue that plan until the labor market improves “substantially.”
“It’s going to be massive and open-ended in size,” said Joseph LaVorgna, chief U.S. economist at Deutsche Bank Securities Inc. in New York and a former New York Fed economist.”
Basically, the Federal Reserve is going to print as much money as is needed to keep the stock market up and asset prices moving higher. What does this mean for the long term? Such an unprecedented market pump has never been attempted in history and it would seem to many, including yours truly, that the Fed’s balance sheet may never be able to contract without massive consequences.
In my view, the pumpers are everywhere on the financial news media outlets and most re completely “in your face” about their stock market bullishness and investment bravado. Just look at the most recent AAII investor sentiment survey for your evidence that the bullishness is pervasive and a bit concerning:
| Survey Results | |||
| Sentiment Survey Results Week ending 1/30/2013 Data represents what direction members feel the stock market will be in the next 6 months. |
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| Bullish |  48.0%down 4.3 |
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| Neutral | 27.7% up 4.3 |
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| Bearish | 24.3% up 0 |
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| Note: Numbers may not add up to 100% because of rounding.Change from last week:
Bullish: -4.3 Long-Term Average:Bullish: 39.0% |
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It’s pretty clear that “everyone” likes the market right now, which means you should probably hold more gold or cash in your portfolio mix than you would normally. We do not like bonds, and over the long term we think the (TBT) is a better investment than the (TLT).
Amazon.com (AMZN), where the company is trading for over 16X book value and a whopping 3,000 times earnings. The company badly missed earnings and sales estimates, yet investors pushed the shares to a new all time high anyway. Creating a massive, multi-billion dollar pump and dump scheme is easy if you have a trillion dollars to invest like most I-banks have to control markets with right now. While we are certain Amazon and Salesforce (CRM) will eventually roll over like Apple or worse, in the short run we think the investment community is being sold on equities by boosting these so-called “leaders” or “darlings” to new, even more obscene valuations. By pumping Amazon to astronomical multiples, Wall Street can convince anyone who is listening that the S&P 500 (SPY) is dirt cheap at 15X earnings by comparison, never-mind the fact that the overall market trades for a price to peak earnings multiple of over 18X. All of this can be accomplished thanks to the promise of never-ending FED manipulation, aka open ended Quantitative Easing.
All in all, investors have to view markets as a centrally planned pump and dump. Sure, it’s okay to play along for the ride for a while, but make sure you sell before the music stops! I suggest investors own the Sprott Physical Silver Fund, (PSLV) and (GLD) in the money call options as a hedge against central bank money printing. Keep in mind, that many skeptical investors choose to hold physical directly versus “paper” metals listed on an exchange. In other words, in the short run, we think the banks will continue “pushing down” metal prices as much as they can. In the long run, physical metals are likely the asset class of choice other than farmland, timberland, oil fields, etc…
Below is a longer term chart of the Fed’s rapidly expanding balance sheet: (when will this money move out of the banks and into middle market businesses?) Stay tuned for more of the inconvenient facts. For now, be cautious on equities and constructive on real, non paper assets.
