Frederick J. Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, 2009) and "The Coming Collapse of the Municipal Bond Market"(Aucontrarian.com, 2009)
Federal Reserve Chairman Ben S. Bernanke reviewed his Quantitative Easing, Second Inning (QE2) at the National Press Club on Thursday, February 3, 2011. His conclusion: "The economic recovery that began in the middle of 2009 appears to have strengthened in recent months..."
Chairman Bernanke endorsed QE2 as the sparkplug. The current Bernanke interpretation should be compared to benefits the chairman promised on November 4, 2010. "Promised" is the correct word since he claimed (via his Washington Post manifesto) that QE2 "would" - not "should," or "probably" - produce specific results. The future is chalk full of contingencies, but not to the myopic chairman. See: Ben Bernanke: The Chauncey Gardiner of Central Banking.
Bernanke's words from the Washington Post, on November 4, 2010:
"Easier financial conditions will
1 - promote economic growth. For example,
2 - lower mortgage rates will make housing more affordable, and
3 - allow more homeowners to refinance.
4 - Lower corporate bond rates will encourage investment.
5 - And higher stock prices will boost consumer wealth and help increase confidence..."
[Bold and underline mine - FJS]
The Fed's device to create "easier financial conditions" is the purchase of $600 billion of U.S. Treasury securities. The Fed has bought about one-third of the total. Bernanke declared QE2 a success before the National Press Club:
"A wide range of market indicators supports the view that the Federal Reserve's securities purchases have been effective at easing financial conditions. For example:
1 - equity prices have risen significantly,
2 - volatility in the equity market has fallen,
3 - corporate bond spreads have narrowed...
4 - Yields on 5- to 10-year Treasury securities initially declined markedly as markets priced in prospective Fed purchases; these yields subsequently rose, however, as investors became more optimistic about economic growth...."
[Bold and underline mine - FJS]
Bernanke, who told 60 Minutes: "I've never been on Wall Street," now asserts rates have risen due to Wall Street's optimism. This is par for the man. Those acquainted with Simple Ben's Essays on the Great Depression are familiar with his negligence or suppression of evidence.
As for lower interest rates, the yield on 10-year Treasury bonds rose from 2.48% on November 4, 2010, to 3.65% on February 4, 2011. That is a 47% boost, during the period in which the Federal Reserve bought approximately $200 billion of Treasury bonds, to reduce mortgage rates. On February 3, Bernanke did not mention mortgage rates among his "wide range of market indicators" that validate QE2.
Since November 4, 2010, Freddie Mac 30-year fixed-rate mortgage rates have risen from $4.10% to 4.81%. Housing - which accounted for 40% of new jobs during the ersatz-boom - is sinking, partially due to the higher rates since Bernanke's November 4, 2010, manifesto. Hence, the Fed chairman never mentioned his housing promise before the National Press Club.
For investors, more important than his omissions was an addition to his list of accomplishments. That is: "volatility in the equity market has fallen." Bernanke thereby signaled that Wall Street may rely on the "Bernanke Put." By accomplishing this feat of falling volatility (to novitiates, the fluctuation of security prices is being controlled by the Fed) Bernanke told Big Money to leverage into the riskiest speculations. (Also for novitiates - it is true, volatility also increases when prices go haywire to the upside, but it is only falling prices that concern speculators, and Bernanke.)
Bernanke's briefing was reminiscent of times past, during pep talks by his predecessor, former Federal Reserve Chairman Alan Greenspan. Echoes from a similar "all clear" speech by the former Maestro led to a search in Doug Noland's archives, author of the indispensable Credit Bubble Bulletin, and manager of the Prudent Bear Fund, now housed within Federated Investors, Inc. On September 26, 2003, Noland wrote:
"To understand today's environment it is important to appreciate that the Fed looked at potential debt collapse last year and said, "We'll have absolutely none of that!" Team Bernanke/Greenspan aggressively cut rates and signaled to the market that they were willing to flood the system with liquidity to resolve the dislocation (couched in terms of fighting "deflation" - much more palatable than fearing "debt collapse"). The rest is history. The leveraged speculators and derivative players began to reverse their short positions, setting in motion a self-reinforcing return of liquidity and Credit availability (not to mention one heck of a speculative stock market run). Not only did the derivative players reverse bearish bets, The Powerful Force began aggressively taking leveraged long positions. It was one of history's most precipitous Busts to Booms.
"A few weeks ago hedge fund manager extraordinaire Leon Cooperman was on "Kudlie and Cramie." His fund is up big this year, and Mr. Cooperman was pleased to explain his very successful bet on the junk bond market. "The government wanted us to own them," if I recall his comment accurately....The Fed wanted the speculators to buy. Success stories are easy to find these days throughout the leveraged speculating community. Everyone is fat, happy and complacent.
"Our policymakers have made it perfectly clear - to the home owner, to the stock jockey, to the global bond players, to the derivatives trader - that leverage is the way to easy profits. And Everyone has been rushing full-throttle to play inflating asset markets...
"[V]irtually no one voices concern about the speculative excess running roughshod throughout the stock, bond and emerging markets, as well as the California/national housing markets. The "good" news is that Everyone is keen to expand holdings (inflationary bias). The bad news is that these holdings are growing exponentially and their liquidation will be a big problem. There will be no one to take the other side of the trade."
In closing: The Bernanke Put may work for awhile. Or, it may not. There was no one to "take the other side of the trade" in 2000, 2007 and 2008. All government support operations, in the end, fail. The Romans learned that. Investors should hold downside protection.
Bernanke is losing credibility. One measure is the reverence of the retail community towards the Federal Reserve chairman. Yesterday, on February, 7, 2011, the "Yahoo! Finance" website sported an image of Bernanke dolled up as Bart Simpson. This was Yahoo's verdict of Bernanke's National Press Club speech. As Bernanke sags, so goes the dollar. (It might be recalled that a cartoon drawing of Alan Greenspan, when chairman of the Fed, high-fived Bart Simpson on the show. This was a very different image.)
Hard assets are anti-dollars. Several mining companies will announce fourth quarter earnings over the next two weeks. For the most part, their profits should be higher than previous periods since costs are not rising nearly as fast as the price of gold, silver, copper, and other rocks - the goods they sell. Some of these companies will probably announce higher dividend payouts. Dividends are in favor at the moment. A portion of those who think Ben Bernanke is a recreation of Bart Simpson will sell dollars and buy mining shares.