Notes From Underground

First things first. The FED released its FOMC statement at 11:30 a.m. CST and, as expected, there was no change in the FED‘s policy and the “extended period” language remained as did the use of “transitory” to describe the recent run up in fuel and food costs. The markets initially showed little reaction as the “big event” was to be 90 minutes later. In fact, the U.S. DOLLAR actually remained a little bid and the precious METALS were on the offer as it appeared the market was HOPING for some strong words from the chairman of the FED. The most hyped event since Geraldo’s look into Capone’s vault, Bernanke’s press conference did nothing to assuage the fears that the FED was losing its credibility. The more Bernanke talked, the more GOLD and SILVER rallied and the harder the DOLLAR dropped.

Bernanke was asked a question about the DOLLAR–was he concerned about the DECLINING DOLLAR leading to a drop in U.S. living standards? The FED CHAIRMAN stayed on script and reiterated that the DOLLAR was the Treasury’s purview, but then went on to say that he wasn’t concerned because the recent decline in the DOLLAR WAS MERELY A RECOIL FROM THE RALLY THAT OCCURRED DUE TO ITS HAVEN STATUS POST-LEHMAN. We have heard this rational from Bernanke before about the DOLLAR and I believe it is flawed. The DOLLAR‘s safe haven status is greatly diminished as I wrote about last month when the DOLLAR failed to rally with the turmoil in the Middle-East.

The number of currencies that have made all-time highs in the past few weeks undermines Bernanke’s theory. Yes, the DOLLAR is not making new highs against the EURO or BRITISH POUND, but those currencies are struggling due to similar problems as the DOLLAR, yet the EURO is up 10 percent versus the DOLLAR since the end of 2010 and even the lowly POUND is up 6 percent.

There was no follow-up question on the DOLLAR to ask the CHAIRMAN if he would RAISE RATES if the DOLLAR came under a massive assault. The more Bernanke was comfortable with the DOLLAR‘s present position, the more the GOLD and SILVER rallied. It was not a good day for the FED trying to restore its CREDIBILITY.

Another question posed to the PRINTER-IN-CHIEF: CAN THE FED REDUCE UNEMPLOYMENT MORE QUICKLY? Ben was firm that the FED was doing what it could to meet its DUAL MANDATE and was not yet satisfied with the employment situation. He did say that the FED might have to move if INFLATION BECAME UNMOORED, or maybe if INFLATION EXPECTATIONS began to rise. There was no follow-up to ask if that meant that the FED would raise rates even with UNEMPLOYMENT AT 9 PERCENT. I am still PONDERING WHAT IS THE BEST WAY TO MEASURE INFLATION EXPECTATIONS.

Bernanke keeps on talking about INFLATION EXPECTATIONS but it seems to be ill-defined. The market’s expectations for inflation can be found in the value of the DOLLAR and RECORD HIGHS IN THE GOLD. As usual, the FED CHAIRMAN CARES NOT A BIT ABOUT THE MARKETS BUT SOLELY WHAT THE FED MODELS PREDICT. And herein lies the new CONUNDRUM. There is a disconnect between the markets that deal in FED CREDIBILITY and THE FED’s MODELS.

Yes, the EQUITY MARKETS are rallying but at this point in time it seems that STOCKS are deemed a safe haven from the easy money policies. Better to buy stock in a company that can grow in an inflationary, low-interest environment than to buy a CD or MONEY MARKET FUND. In this sense, Bernanke stated that QE2 has been successful because stocks have rallied in a reduced volatility environment and there has been a significant reduction in CORPORATE CREDIT SPREADS. It seems that Mr. Bernanke should have flown to the press conference in a helicopter and announced MISSION ACCOMPLISHED! The biggest question that the market has left us with is the recent strength in the BOND MARKET. The fact that the DOLLAR is being sold, GOLD is making record highs and other asset classes are surging: HOW CAN THE BOND AND NOTE FUTURES RALLY?

All of this would be easy to absorb if the U.S.DEBT market was under pressure. The simple answer is that the NOTES AND BONDS are a result of the only place the FED is actively intervening so we may well have to wait until QE2 ends to get some resolution to our own CONUNDRUM: THE BOND RALLY. IN THE BERNANKE VERNACULAR, INFLATION IS NOT WELL ANCHORED ENOUGH TO COMMIT TO U.S. TREASURIES. As I remind the readers of NOTES–as KEYNES said long ago–“MARKETS CAN REMAIN IRRATIONAL LONGER THEN WE CAN REMAIN SOLVENT.” Which is why 2+2=5 but do your technical work to keep your losses low so you can remain solvent so as to be able to trade when the fundamentals and technicals support each other. That is the key to prosperity in the GLOBAL MACRO WORLD.

A quick aside: THE RBNZ MET THIS AFTERNOON AND KEPT KIWI RATES UNCHANGED AT 2.5 PERCENT. This was as expected but Governor BOLLARD did say in his release, “Higher oil prices and the elevated level of the NZ DOLLAR are both unwelcome.” I think that was a pretty good message to the U.S. FED.

Tags: Ben Bernanke, Bollard, bond market, British pound, corporate credit spreads, Euro, Fed, Gold, inflation expectations, Kiwi, metals, RBNZ, silver, U.S. Dollar, unmoored

This entry was posted on April 27, 2011 at 7:30 pm and is filed under Currency, Debt Market, Federal Reserve, FOMC, Gold, United States. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.