Federal Reserve building, Washington, D.C.
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The amazing rise of the stock market since the coronavirus crash does not represent old fashioned market reality. I won’t say it doesn’t reflect reality, because it does. The reality is the Federal Reserve and the U.S. government have pumped so much money into the economy that it is kicking like a pair of severed frogs legs in a biology experiment. While the jolts of currents are injected into the dead flesh it appears to the watchers that the organism is alive, which it is to a very limited extent, but we all know that the whole creature itself is dead. The moment the current goes off the lifelike behavior ends.
The Fed pumps liquidity and up goes the stock market. Now the Federal Reserve says it is not looking at the stock market and by implication it is pumping to keep the credit market alive and if the stock market goes up then so be it. Clearly that can’t be totally accurate because if the stock market bubbles (it is) too much then that itself will produce a significant threat to the system.
If you look at the credit crunch of 2007 onwards, the destruction came from the credit markets. The bond markets are the senior markets, equities are junior so if the stock market crashes that is very bad and needs to be watched out for, but if the credit markets die then it’s all over, period. As such, pumping to keep the credit markets open and leaving equities to look after themselves makes sense, but nonetheless the outcome is to make the stock market no longer a free efficient market and instead create a real bubble in valuations.
The stock markets’ levitation from its crash is absolutely correlated with the Federal Reserve pumping money into the system. And now it’s stopped (at least temporarily).
The Federal Reserve balance sheet
CREDIT: FEDERAL RESERVE
In the week to June 15th the Fed pulled money out of the market. This begs the question of why? Does the economy no longer need stimulus; has it had too much?
Clearly it is the latter and why has it been over stimulated? What is the indicator for that? It’s the stock markets’ overperformance. The Fed has pulled money out to stop the stock market going vertical into a bubble doomed to crash.
This is what I predicted in April 14, here.
My prediction in April for the market
CREDIT: ADVFN
So I’m going to amend this to:
My current prediction for the market
CREDIT: ADVFN
I thought I’d have to modify this map more but I haven’t had to, the comfort zone still looks like a good range to me. Now we have a top in place.
It seems clear to me that the Federal Reserve has pulled out money from the markets to check the runaway rise of the market now powered by the fear of missing out (FOMO). The crypto crowd raised on wild bitcoin swings have turned up at the stock market and are doing their FOMO to the moon thing with stocks. This is great but we all understand the danger of a stock market going vertically up without their having to be the biggest recession since the birth of the industrial revolution in progress.
So what now?
- The markets are no longer free. They are highly moderated and filled with inefficiencies that should be a license to make money for the smart. Politics is in charge.
- The markets will not be allowed to melt down. Where that meltdown red line is on the chart is a guess but the above chart is probably roughly in line with the bottom range.
- The government and its agencies will nurse the markets along for the years necessary to get back to an equilibrium of calm. We’ve had that since 2008, expect more of that kind of “curation” until and only until a happy outcome or a colossal breach.
- To keep things going the “powers that be” will pump when the market goes low and pull liquidity when it overheats. This will produce big swings.
What to do?
Buy the big dips and sell the rallies. This is a pure trading market defined by the liquidity injections of the Fed and government stimulus. In the coming period we can guess that if the Fed is pulling money from the market then it’s because the stock market is too high and it will take a fairly significant drop to make them comfortable about levels. Action in the credit market will be all important so if the credit market seizes, then they will flood markets with new cash to reopen them; if necessary to avoid a defining market malfunction they will rebase the value of money to get to a position where support is impossible or unnecessary. This is going to take a long time of crazy markets.
As such the only way to go is to stalk the Federal Reserve’s policies and hope you call them right.
For now it seems time to think about the high probability of a correction. The market is way too high and without new money it will fall back. Right now with the world in various states of economic lockdown things are only going to deteriorate further so unless there is a miracle or governments choose to go full “‘Zimbabwe” there has to be a pullback.
But going full Zimbabwe is an option, so the real situation is any way you turn these are incredibly stormy seas ahead.
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Clem Chambers is the CEO of private investors website ADVFN.com and author of 101 Ways to Pick Stock Market Winners and Trading Cryptocurrencies: A Beginner’s Guide. In November 2018,
Chambers won Journalist of the Year in the Business Market Commentary category in the State Street U.K. Institutional Press Awards in 2018.
TOPLINE
Asked whether the government will send Americans another stimulus check in an interview Monday with Scripps Washington correspondent Joe St. George, President Trump said, “Yeah, we are,” and indicated that another bipartisan stimulus bill is on the way, but did not elaborate further on the possibility of another round of direct payments to Americans.
KEY FACTS
“We will be doing another stimulus package, it will be very good, very generous," Trump said.
It’s unclear whether Trump’s affirmation means another round of checks could be on the way, or whether his administration is considering additional stimulus legislation that wouldn’t include checks; when asked for clarification, the White House press office responded by sending a transcript of the interview.
President Trump has signaled his openness to the idea of more checks before, as has the White House, though he has been more enthusiastic about the prospect of a payroll tax cut to prop up the labor market instead.
Republican lawmakers, wary of additional government spending after the $2.2 trillion CARES Act (the bill that authorized the first round of economic impact payments), have been reluctant to support another round of checks.
When asked how much the next stimulus package will be worth, Trump said, “you’ll find out;” he also said he expects more details about the package to be announced “over the next couple of weeks.”
KEY BACKGROUND
With CARES Act protections set to run out next month and coronavirus cases spiking in nearly half of states, White House officials and Republican negotiators have decided they won’t hold negotiations on the next round of stimulus legislation until after Congress returns from recess at the end of July. May’s better-than-expected jobs numbers may have thrown a wrench in the process, with some lawmakers, including President Trump, taking the surprising good news as a sign that the economy is already on the road to recovery. The $3 trillion Heroes Act—a massive piece of economic rescue legislation proposed by House Democrats last month—includes a provision for another round of checks, though Senate Republicans have said that bill is “DOA” in its current form.
FURTHER READING
Half Of Americans Received Stimulus Checks As Economy Stumbles And Unemployment Hits Record Highs (Forbes)
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