Tim Price: Boom
Comment of the Day

October 08 2012

Commentary by David Fuller

Tim Price: Boom

My thanks to the author for his ever-interesting letter, published by PFP Wealth Management. Here is a brief sample:
There is a thesis, with which we agree, that suggests that the world now requires constant economic growth solely to service its mountain of outstanding debts. So what happens when that constant economic growth starts to turn into a synchronised slowdown - or worse ? So far, with private sector borrowers furiously deleveraging (even at near zero interest rates: NOBODY WANTS TO BORROW - see Japan, last 20 years), the major central banks have aggressively taken the other side of the trade, and pumped money into the banks through the magical money-creation Ponzi scheme known as quantitative easing. The banks aren't particularly keen on lending it out. That may be because they're predominantly insolvent, but let's not go there. So we have a stand-off, of sorts. On the one hand, individuals and corporates, having binged on easy credit for far too long, are now mostly sickened by the stuff. On the other hand, central bank governors don't want to take the credit for Great Depression II. They'll get it anyway, because the markets cannot be fooled indefinitely either. Meanwhile, the price signals that would ordinarily be a guide to entrepreneurs and other risk-takers are being hopelessly distorted by money-printing.

One side-effect of QE is that increasingly dangerous sovereign debt (as a shorthand: G7 government debt) optically resembles high quality debt in that the miserly yields available seem to reflect some form of 'flight to quality'. What those miserly yields actually reflect is financial repression - namely that the government and its regulators are effectively forcing captive investors (not least pension funds) to invest almost exclusively in this garbage. In the process, by happy coincidence, heavily indebted governments are able to fund themselves. The private sector has a word for this policy: extortion. (It has another word for it: rape.)

Another side-effect of QE is that the perception of value in the variously affected currencies swings even more wildly than usual. Somebody intelligent once wrote that paper currencies don't float, they just sink against each other at different rates. Since 1971 this has undoubtedly been the case. But since the Fed and the ECB went all-in in their pursuit of QE ad absurdum, the risk of disorderly currency collapse has risen markedly.

David Fuller's view This is one of two market letters that I have received recently, which I will describe as being of the Austrian School in terms of their economic outlook. There are other knowledgeable writers taking similar views, as subscribers will know, and I for one definitely pay attention to their warnings, even though I may not follow their narrowly defined (survivalist, for lack of a better word) investment approach, for reasons of timing.

Here is a brief sample from Peter Bennett's Personal View: Panic - QE(n):

Policy is like an army on the run. The generals get the troops to spray bullets at random in the rough direction of the enemy. And pray one or two hit. Tough if they hit the retreating troops themselves. Basically, they have little clue as to what they are doing. And the results show it. Read on.

Investment Grade Debt has been distorted down to yield less than 3%. This is a bubble which will ultimately deflate. Painfully.

Indexed Bonds are also in a bubble, with prospective negative real returns! Trouble in due course there is likely too.

The Financial Times reports fear in the currency markets, as players struggle to find currencies that may not be manipulated downwards in a 1930s 'beggar thy neighbour' fashion, by central bank monetary excess. This excess also puts unnatural upward pressure on non-print nations, often emerging economies. If these economies then try to hold down their currencies, domestic inflation, consumer and/or asset bubble, are/is likely to result.

Commodity prices are probably higher than they would be without QE(n), as investors seek something of actual real value. Fine for the producers, not such fun for consumers, especially those on low incomes where food and energy take up a large slice.

In terms of being a daily commentator and also a participant in the financial markets, I wish to remain alert regarding most areas where investment and trading ideas appear promising for at least a short to medium-term basis.

However, I am less than reassured by a central bank approach to QE that seems to believe, if it isn't working in terms of creating growth and jobs, add more, and if inflation and bond yields are not spiking, give the economic patient yet another transfusion.

My guess is that the problems of higher yields and widespread inflationary pressures will arise around the time the velocity of money clearly increases. However, so-called 'safe' government bond yields could also rise in anticipation of trouble because major investors turn into the bond vigilantes of previous eras. I will continue to discuss this in Audios (see also Eoin's comment on the velocity of money posted on 7th September).

Meanwhile, we monitor price charts for all instruments, and also yield charts for bonds, to avoid being blindsided when the mood really does change.

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