Is this the end of cheap money?
A harrowing global market sell-off has been unleashed as policymakers start tightening liquidity.
For the first time since 2012, the Dow Jones Industrial Average looks set to close below its 50-day moving average. This is a huge shock to many observers, since, dosed with cheap money from the Federal Reserve and other major central banks, it was easy to forget that stocks can indeed go down. They're quickly making up for lost time as stocks fall gracelessly out of a two-month consolidation pattern.
Sentiment measures, investors positioning and technical indicators all suggest additional downside pressure to come. But more importantly, the catalysts for the sell-off -- the specter of a reduction in the Fed's $85 billion-a-month bond purchase program and turmoil in the interbank lending market in China -- represent a broader shift: Money is getting tighter.
You can see this in the way bond yields have been spiking, raising the borrowing costs for governments and corporations. The chart below shows how five-year Treasury yields have surged to 1.3%, returning to levels not seen since mid-2011. This unwinds the drop in the cost of money associated with the August 2011 U.S. credit rating downgrade.
This, in turn, is affecting the stock market by multiple vectors. It reduces the ability of corporate CFOs to lever up their balance sheets by borrowing from the bond market and using the proceeds to fund dividend hikes and share buybacks.
And in Japan, higher government borrowing costs have sucked the wind out of the liquidity-fueled rally we saw earlier this year. The Nikkei 225 recently fell into bear market territory and is still down more than 18% from its May high. As the 10-year Japanese Government Bond yield climbs back toward 1%, it inches closer to the 2% threshold that would effectively render Tokyo insolvent.
In the end, all of this reduces the cash available to speculators to boost stock prices. It's the asset price deflation/recession theme I wrote about weeks ago. It started in commodities like copper back in September. It spread to emerging-market stocks in January. Hit precious metals in April. Corporate bonds in May. And now, finally, it's hitting U.S. stocks.
As asset prices fall, the complicated web of asset hypothecation collapses as collateral becomes less valuable and margin debt is called in. Remember that cash balances at client accounts with NYSE exposure have fallen below the lows of the 2007 bull market top and have returned to levels not seen since the dot-com bubble was topping. Investors are extended and complacent.
Something similar is happening in China's banking system as Beijing tries to reel in an overleveraged financial system inflating credit bubbles, especially in real estate. As liquidity is removed, its price rises: Short-term money market rates surged to more than 10% last night (nearly triple the level of just two weeks ago) as the People's Bank of China said it wouldn't inject cash to calm the situation.
Chinese policymakers are trying to send a message. Just as Federal Reserve Chairman Ben Bernanke did Wednesday. And that message is that people need to prepare for a future in which money costs more, either because policymakers are losing control of their ability to push down interest rates, or they pop credit and asset price bubbles before they become too large and too destabilizing.
And as liquidity-boosted asset prices fall, liquidity will further tighten. Then emotion will kick in.
Volatility is moving higher, boosting the CBOE Volatility Index (VIX), as options traders scramble into put option protection against further stock market declines. Other attractive plays here include the ProShares UltraShort Europe (EPV) as European financials like ING Group (ING) weaken.
Disclosure: Anthony has recommended EPV, JGBD, and AA short to his clients.
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Me? Well, I can only hope that this is the end of cheap money. The low interest rates have been an impediment to true economic recovery. Retired people could use interest income to supplement social security. Vacant for 5-years. And the cheap loans to Wall Street are being used to plow money into the stock market; a market that is propped by subsidies, bailouts, chewing gum, and spit.
There was and is no recovery. Borrowing money at low interest to gamble on the stock market, is not a recovery. It's a "fix" for those addicted to money. Cut the cash-drug. Let the average guy have a chance. Stop robbing us, to support a sham economy.
"five-year Treasury yields have surged to 1.3%"
Never would have thought I'd hear "surged" and "to 1.3%" in the same sentence.
IT IS ABOUT DAM/N TIME!!
Enough of this living on credit crap, already - it only lines the pockets of the money lenders!
Econ 101...what goes up, must go down. This little correction is nothing. Look at how much the market has went up past 2 years alone.
The same BS thinking that the market should always be going up is what gave us in part, the dot com bust in 2000.
If there was a rule on Wall Street that traders could not be compensated when selling their clients investments for a loss....now that would really be something. So just hang in there
So if the economy got this 85B boost each month, how many months has The Players been getting paid?
Other developments to think about: China's economy is faltering and loan requirements there are tightening up. So China will be having its' "come to Jesus moment" when its market tumbles.
I'd really like to help China out some more and propose we (US) just tear up the T-Bill debt owed to China and tell them "tough luck , we taught you capitalism, now it's time for you to deal with the downside of unchecked expansion". Now that would bring long term relief to our economy and the multi-nationals would have to come back to the US hat in hand for loans and labor to produce goods.
Oh sure, Walmart would hurt for a while but would recover and the US economy would take off.
Or both, is more like it. Bernanke's bubble is starting to leak. Time for him to go to GS and get a big fat bonus for being a good tool in the shed.
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An interest rate tease in The Wall Street Journal sends the market into an optimistic tizzy -- but one that doesn't end quite at the top.
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