A process of financial repression: forcing investors to take on risk that they would otherwise spurn. In August 2010 in his Jackson Hole speech, Chairman Bernanke stressed the importance of the PORTFOLIO BALANCE CHANNEL as an effective way to enliven the “animal spirits” of investors. By forcing the QE program onto the BOND market, the FED CHAIRMAN hoped that terrified investors would rush into stocks. QUANTITATIVE EASING would turn CASH INTO TRASH and thus force pension funds and others into equities and thus begin to allow a new bout of capital beginning to circulate. The market did not even wait for the FED to officially breathe life into the QE monster but understood Bernanke’s intentions and began bidding up stocks immediately after the JACKSON HOLE SPEECH.
It seems that the DRAGHI/ECB plan is the mirror of the FED’s PORTFOLIO BALANCE CHANNEL except that the target is not EQUITIES but rather the DEBT markets. The LTRO plan is an attempt to compress rates on the short end of the curve so that pensions and other investors will begin to purchase Italian and Spanish debt further out on the CURVE. Draghi’s plan has not yet succeeded as it has only been the 2/3 year part of the curve that has felt the impact of the huge liquidity add by the ECB. If DRAGHI is to achieve his ultimate aim, the short end is going to have to collapse much further before European banks and investors attempt to buy DEBT further out on the curve. Currently, there is still good opportunity by staying within the three-year time frame.
The 2/10 curves of the PERIPHERALS have steepened dramatically, which is definitely an objective of DRAGHI’S PORTFOLIO BALANCE CHANNEL.However, if the steepeners begin to lose momentum and begin to reflatten, the ECB is going to have to initiate far more LONG-TERM REFINANCING OPERATIONS (LTRO), resulting in the EURO coming under severe pressure. Markets are thin and treacherous and the GLOBAL AUTHORITIES are gaining the upper hand. The purpose of the ECB LTRO is not directly the EQUITY markets but if a STOCK RALLY is collateral damage, Bernanke/Geithner will be joyful.
***A must-read article is a piece by John Glover on Bloomberg from December 21 (Hat Tip JA). This details the impact of the ECB’S collateral market that makes today’s credit market’s work. It is a great underpinning to the earlier piece by Bill Gross who trashes the FED’S zero interest rate policy as being counter productive. In a world of massive potential deleveraging, the world’s central banks have one tool: LIQUIDITY and the desire to render the cash in your mattress an undesirable asset–there is no point to having SCHLUFFEN GELD. For investors earning zero on their savings the FED ET AL make it difficult to sleep.
****To all of my readers and contributors to the conversation: Thank you for a great year and allowing me to be part of investment process. I wish you a Happy Chanukah and Merry Christmas and may you experience the PEACE of the SEASON always. May the economic stresses of the world diminish and the productive capabilities of the global community be unleashed for GOOD and may the hungry be FED and the naked be clothed.
In investing we merely try to understand the thought process of the world’s policy makers and direct our capital to profit thereby. Good policy begets positive capital flows and prosperous results are the end results. If the European leaders had bothered to listen to the capital markets in December 2009, many of the present problems could have been lessened. Capital flows are merely reflections of the decision makers. Politicians can be arrogant money has to be humble to be productive.