Financial Sense   Home  l  Market Monitor  l  Market WrapUp  l  Storm Watch  l  About Us  l  Contact Us

MARKETS WAIT FOR THE FED

Markets have been lackluster throughout the morning as traders await the announcement from the Federal Reserve later today. It is widely expected the FOMC will raise the fed-funds rate for the 16th consecutive time to 5.0%. The markets are really waiting for the accompanying statement to look for clues whether or not the Fed will change their language to imply a pause in rate increases. Most analysts are expecting the Fed to pause at 5% after today’s increase, but with the failing dollar they may have to continue higher.

In one of today’s Bloomberg articles they say a majority of Wall Street’s biggest bond traders believe the Fed will pause on rate hikes until at least August as they wait to digest more economic data. We are certainly getting mixed data from the economy with a rising stock market, higher interest rates, a slowdown in the housing market and sluggish wage growth. Commodity prices have been going through the roof and trade tensions are on the increase with China. Later today the Treasury Department will release their budget statement and comment on whether or not China is considered a “currency manipulator.”

The markets seem to be fixated on the Federal Reserve’s policy toward interest rates, but the real issue is their rampant money creation. We are now hearing lots of talk in the financial press about inflation fears, but the mainstream media never talks about the real roots of inflation which is the supply of money. In fact, the Federal Reserve doesn’t even want to discuss the money supply since they decided to stop reporting the M-3 money supply figures. They continue to inflate the supply of money, but work hard to shift the focus on the cost of money – interest rates.

I heard a report yesterday on CNBC where they identified five “cash-rich” companies including Berkshire-Hathaway, Ford, Microsoft, Exxon-Mobile, and one other that are sitting on over $200 billion in cash. They are not spending the money to increase plant and equipment, and they are not passing the cash along in the form of wage increases. What we are seeing is a large flood of money pouring into commodities. The price of gold over $700 per ounce is indicative of way too much cash chasing way too little tangible assets…paper, paper everywhere!

The following excerpt from a Bloomberg article is indicative of what we are witnessing:

Pension and hedge funds are pouring money into commodities as raw materials from sugar to oil generate returns that are outpacing other assets. Fund investments in commodities may exceed $120 billion by 2008, up from $80 billion last year, according to Barclays Plc.

Crude oil gained 16 percent this year in New York and traded above $70 a barrel today, and gold reached $706.80 an ounce, the highest since October 1980. The Dow Jones-AIG Commodity Index rose to a record 182.516 today and is up 19 percent in the past year.

Stocks, Bonds

The Standard & Poor's index of shares has risen 6 percent this year, while U.S. Treasuries have lost investors 1.7 percent, according to Merrill Lynch & Co.

"There may have been additional money coming to metals from the fixed-income market," said Michael Lewis, head of commodities research at Deutsche Bank AG in London. "It's the catalyst for the latest move higher. There hasn't been anything in the metals complex to short-circuit the rally."

Notice they say that money is moving from the fixed-income market (falling bond prices) into the metals. The fact remains there is so very much money sloshing around all the markets that IT MUST GO SOMEWHERE! When we look at the broad stock indexes, all they are really doing is trying their best to keep up with the massive expansion of the money supply. If interest rates are going to continue higher (i.e. lower bond prices) where will the money go? If the fed continues to raise much further, the slowdown in the housing market will accelerate and stock prices will take a beating. If they don’t continue to raise rates, the U.S. dollar will continue its decline!

Inflation Drives Political Unrest

The rampant money inflation by the Fed is resulting in markets that are reacting to political developments all around the globe. The same Bloomberg article mentioned above states, “Copper has gained as labor disputes and production threats from Mexico to Indonesia have dented global stockpiles.” That is an understatement, as the real issue is too much cash chasing too little copper around the globe. The excess cash also continues to drive demand which exhausts the available supply. They talk about global “stockpiles” of copper, but then state, “Mine closures and declining ore grades have helped cut copper stockpiles to the equivalent of about three days of global consumption.” I would hardly call a three-day supply a stockpile!

Much of the same can be said about the politics of oil and the global race to secure available supplies. Last week Mineweb reported, “This week’s nationalization of crude oil and gas reserves by Bolivian president Evo Morales has filled investors with fears of copycat actions around the world. Soaring crude oil prices have already inspired similar actions by Russia’s Vladimir Putin and Venezuela’s Hugo Chavez.”

The markets will be watching the Treasury statement later today to see if China is considered a currency manipulator, but most agree they won’t really say much. The Treasury will most likely increase the pressure, but fall short of calling them a manipulator. If deemed a manipulator, Congress will be more likely to impose some trade sanctions or import tariffs of some kind. A great article on the subject was recently written by Jim Willie who writes the “HAT TRICK LETTER.” In his article found in the Financial Sense University, “Global Trade War Update,” Mr. Willie opens with the lead sentence, “Trade war in my opinion coincides with erosion of sovereignty from decades of chronic inflation.” He could just as easily have said that wars coincide with decades of rampant excess money creation, because they mean exactly the same thing!

Wait Around For Nothing!

I will work to refrain from too much sarcasm, but in my opinion the changes in the statement from the Federal Reserve are just a big joke! This FOMC is absolutely handcuffed on what they can do. They really said nothing, because if they did they would face a further collapse of the dollar or they would face a collapse of housing and the economy. To stop rate increases right here would say, “Bye, bye dollar” and big rate increases would kill stocks, housing and the economy.

When the statement was released the Dow Industrials caved from breakeven at 11,640 to 11,595 then popped higher by 75 points to 11,670. In my opinion, the Working Group on Financial Markets has their fingerprints all over the thing with an intervention boosting the Dow Industrial Index. You could try to chalk it up to normal market volatility, but I would suggest the stock market did not get the message it was looking for with a definitive pause coming for interest rate hikes.

Some of the commentators on CNBC were getting all excited with one of them coming out to say, “Here is the big change in the statement from the Fed:

From: ‘Some further policy firming may be needed.’

To: ‘Some further policy firming may yet be needed.’”

Then he went on to say, “They added the word ‘yet’ and also added that the ‘extent and timing of any such firming will depend importantly on the evolution of the economic outlook as implied by incoming information.’”

All the excitement, and they really said nothing. I firmly believe the “incoming data” the Fed will be watching most closely is the international strength of the dollar. The Fed has the power to create dollars out of thin air; without the dollar, the Fed has no power. They must protect their source of power; therefore, we will probably see more rate increases.

The only other parting shot I will take at the Fed comes with their statement that, “Inflation is relatively contained.” My question is, “Contained relative to what?” If you are paying $250 a week at the grocery store to feed your family or dropping $70 to fill your gas tank, you’re probably not thinking inflation is well contained! Bill Gross of PIMCO said he considered it a positive the Fed believes inflation is well contained, and added that he thinks it means they will in fact pause in June. I’ll bet Mr. Gross knows some things I am not privy to. They will probably pause if the dollar can hold on from here.

A More Graphic Example

For a more graphic description of the forces the Fed is fighting, I will show the following chart of the U.S. Dollar Index followed by the report today from the Mortgage Bankers Association. Here’s a look at the dollar:

You can plainly see the dollar has taken a hit recently, but now let’s see what is happening in the world closer to the real economy, the housing market. Remember the big boom in home prices began in earnest after the popping of the NASDAQ stock bubble. The bursting of the housing bubble is primarily contingent on the near-term direction of interest rates. The Mortgage Bankers Association reported its application index fell 5.8% with the purchase index down by 3.9% and the re-finance index down by 8.8%. From the same period a year ago, purchases are down by 21% and refinancing is down by 37%. These are significant declines from a year ago, and if they accelerate we will see large numbers of people lose their jobs in construction, escrow offices, mortgage companies, real estate agents, furniture and appliance stores, etc. Finally from the MBA, 30-year fixed rates moved four basis points higher to 6.61% and the average one-year ARM moved four basis points lower to 6.04%. One year ago the one-year ARM stood at 4.20%.

Breaking News and Treasury Debt

The Treasury Department has determined that China is NOT a currency manipulator! However, Treasury Secretary John Snow said he is “extremely dissatisfied” with the slow progress China has made to revalue its currency. He also said this is not a China-U.S. issue, but rather a multi-lateral issue. Multi-lateral just means they are taking jobs and manufacturing business from countries all around the globe. It is clear to me that Washington is not coming from a position of strength when it comes to managing the growing tensions with China. We cannot dictate to China what to do with their currency because we are far too dependent on them for low cost imports and borrowing money to support the deficits here in the USA.

With regard to borrowing money, the Treasury Department borrowed another $21 billion yesterday with their auction of three-year notes. Tomorrow they will borrow another $13 billion with the sale of 10-year Treasury notes. I read some comments yesterday from a bond market analyst who said this is the “smallest quarterly refunding cycle in four years” with the total sale of $34 billion this week. I would have to say, “Not so fast” with the determination this is the smallest quarterly refunding in four years. I believe they have split the refunding into two separate sessions. I will have to do some more digging to see if I am correct.

This week the Treasury is selling $34 billion in 3-year and 10-year notes, but according to the Treasury’s website they are going to auction more on May 24^th and 25^th. In past quarterly refunding auctions, the Treasury usually had three days of auctions with 2-year, 5-year and 10-year notes. It looks to me like they have split the auction schedule into two separate sessions to sell paper with four different maturities. By the time May comes to a close, they will have large offerings of 2, 3, 5 and 10-year debt. On the Treasury’s website they are calling the auctions on May 24th and 25th “monthly 2-year and 5-year note auctions,” but I see it as almost one continuous string of borrowing. If you care to read the details yourself, here’s a link to the Treasury’s press release.

Some Closing Numbers

By the closing bell the Dow Industrial Index gained a whopping two points to close at 11,642, the NASDAQ Composite took a hit to close 17 points lower at 2,320 and the broader S&P 500 closed two points lower at 1,322. The relative safety of the large-cap blue chips held up better than the high flyers in the technology shares. Dell took a hit yesterday and Cisco came out with some weak guidance today.

Bond prices were basically flat for the day after getting a bid through most of the morning with the anticipation the Fed would back-off the rate increases. The trading for today suggests the bond market’s overall conclusion is that it is not “baked in the cake” the Fed is done raising rates. The yield curve flattened slightly today as yields moved higher on the five and ten-year notes, but lower for the 30-year bond. Just who could it be that’s buying the long end of the curve while we witness covert inflation? I think there’s monkey-business going on in the bond pits, but you decide for yourself.

The dollar bounced higher when the Fed announcement came, only to end the day back on the skids again. The chart above says it all for the dollar. There wasn’t a great deal of volatility in the precious metals and commodity prices today. Gold closed $3.70 higher at $705.20 an ounce, silver lost $0.15 to $14.31 per ounce and Dr. Copper closed at another new high by adding nine cents to close at a whopping $3.69 per pound! With three days of global supply for copper who is ready to short it???

The energy complex moved higher across the board with crude adding $1.51 to $72.20 a barrel, heating oil added seven cents to $2.066 a gallon, natural gas moved $0.30 higher to $6.89/mbtu’s and the big percentage winner for the day was unleaded gasoline (+6%) by gaining $0.123 to close at $2.17 per gallon. Crude inventories are at their highest level in eight years, but the big oil companies need to make a buck. Gasoline inventories were expected to grow by 1.2 million barrels, but instead grew by a larger 2.4 million barrels; nonetheless, unleaded gas was the big price gainer today as we prepare to fill our tanks for the upcoming driving season.

It’s a shame to see the financial markets clouded with so many political issues, but that seems to be the inevitable result of rampant money creation. The rubber band is getting stretched pretty tight with the disconnect of the financial markets from the real economy. The Federal Reserve has a tough job of juggling dollar strength with economic growth. I suspect the convoluted rhetoric will continue right along with covert inflation as the Fed increases the money supply while talking tough on inflation with higher interest rates. Gold is sounding the fiat money alarms as it moves through $700. It will be volatile, but owning bullion is a great way to preserve wealth!

Have a Great Evening!!

Mike Hartman

Home  l  Broadcast  l  Market Monitor  l  Storm Watch  l  Sitemap  l  About Us  l  Contact Us