"I believe we have commenced a "repricing" process that will unfold over weeks, months and years - with vast ramifications and unknown consequences. With this in mind, let's at least contemplate a few near-term issues.
Various reports claim the strong market reaction to Federal Reserve chairman Ben Bernanke's policy statement caught the Fed by surprise. Despite attempts by various officials to calm the markets, bond yields have just kept rising. As such, it's now reasonable to suggest the Fed did not anticipate being on the wrong side of a spike in market yields. How much higher do Treasury bond and MBS yields need to rise before the Fed is held to account - and forced to explain - the large losses suffered in its $3.4 trillion (and ballooning) portfolio? At this point, the Federal Reserve is akin to a novice trader who keeps adding to a losing position.
Could mounting losses on its holdings play a role in the Fed's "tapering" timeline? Keep in mind the market perception that any jump in Treasury yields would likely ensure the Fed's ongoing QE support. Now much too complacent? What if the markets begin fretting that escalating losses on Fed holdings might become part of the debate - and provoke a less cavalier approach by our central bank - and others - in managing risk? In a way, Fed critics finally have a concrete issue to build their case around.
Assuming the Fed cannot keep purchasing Treasuries and MBS forever, perhaps there is now added impetus for investors, hedge funds, foreign central banks, sovereign wealth funds and others to push liquidations forward. If money managers now realize they are holding higher risk exposures than desired, it might be advantageous to make necessary portfolio adjustments prior to the Fed winding down its QE operations.
If foreign central banks have begun a process of reducing bond holdings, does this accelerate hedge fund selling? Are the sophisticated players now anxious to reduce holdings before the next wave of bond fund redemptions and ETF-related selling? How does it work when the "Masters of the Universe" - having accumulated Trillions of assets under management by adeptly playing a most-protracted market bubble - find themselves on the wrong side of rapidly moving markets?
I am intimately familiar with the bull story for US equities. Corporate profits are strong and stock valuations are attractive. Bond yields are rising because of the underlying strength of the US economy. The "great rotation". The US economy remains the most vibrant in the world. US equities are the preferred asset class for the current environment.
Well, the US stock market is an integral facet of the greater credit bubble. Massive federal deficits, ultra-loose financial conditions and artificially low borrowing costs have been instrumental in inflating profits. mis-priced debt and meager risk premiums have been instrumental in myriad financial engineering mechanisms that have inflated corporate earnings and stock prices. Abundant cheap finance has fueled a powerful global mergers and acquisition boom. If the bond bubble is indeed bursting, the markets are only in the earliest phase of re-pricing risks and asset prices.
With fixed income in some serious trouble, the equity market game becomes all the more critical for all the players. And perhaps this is an important "mis-pricing risk" associated with the Fed's ongoing quantitative easing: investors hit with unexpected bond losses now increase their bets on inflated stock prices. After leading unsuspecting savers into the wild world of mis-priced fixed-income instruments, the Fed will apparently ensure the public becomes overly exposed to unappreciated risks in the US equity market.
As noted in my "Issues 2013" CBB from early January: A market bubble implies bipolar outcome possibilities. Either the entrenched bubble bursts or it becomes an issue of "how crazy do things get?" If the US stock market has evolved into the speculative bubble of choice, there are a couple things the Fed might want to contemplate. First, QE may now work to spur similar late-cycle speculative excesses that are now coming home to roost throughout the fixed-income universe. Second, inflating stock prices may work to pull additional liquidity away from an already liquidity-challenged bond market. It is, after all, the nature of liquidity to seek the inflating asset market".
Source :AsianTimes
Doug Noland
Various reports claim the strong market reaction to Federal Reserve chairman Ben Bernanke's policy statement caught the Fed by surprise. Despite attempts by various officials to calm the markets, bond yields have just kept rising. As such, it's now reasonable to suggest the Fed did not anticipate being on the wrong side of a spike in market yields. How much higher do Treasury bond and MBS yields need to rise before the Fed is held to account - and forced to explain - the large losses suffered in its $3.4 trillion (and ballooning) portfolio? At this point, the Federal Reserve is akin to a novice trader who keeps adding to a losing position.
Could mounting losses on its holdings play a role in the Fed's "tapering" timeline? Keep in mind the market perception that any jump in Treasury yields would likely ensure the Fed's ongoing QE support. Now much too complacent? What if the markets begin fretting that escalating losses on Fed holdings might become part of the debate - and provoke a less cavalier approach by our central bank - and others - in managing risk? In a way, Fed critics finally have a concrete issue to build their case around.
Assuming the Fed cannot keep purchasing Treasuries and MBS forever, perhaps there is now added impetus for investors, hedge funds, foreign central banks, sovereign wealth funds and others to push liquidations forward. If money managers now realize they are holding higher risk exposures than desired, it might be advantageous to make necessary portfolio adjustments prior to the Fed winding down its QE operations.
If foreign central banks have begun a process of reducing bond holdings, does this accelerate hedge fund selling? Are the sophisticated players now anxious to reduce holdings before the next wave of bond fund redemptions and ETF-related selling? How does it work when the "Masters of the Universe" - having accumulated Trillions of assets under management by adeptly playing a most-protracted market bubble - find themselves on the wrong side of rapidly moving markets?
I am intimately familiar with the bull story for US equities. Corporate profits are strong and stock valuations are attractive. Bond yields are rising because of the underlying strength of the US economy. The "great rotation". The US economy remains the most vibrant in the world. US equities are the preferred asset class for the current environment.
Well, the US stock market is an integral facet of the greater credit bubble. Massive federal deficits, ultra-loose financial conditions and artificially low borrowing costs have been instrumental in inflating profits. mis-priced debt and meager risk premiums have been instrumental in myriad financial engineering mechanisms that have inflated corporate earnings and stock prices. Abundant cheap finance has fueled a powerful global mergers and acquisition boom. If the bond bubble is indeed bursting, the markets are only in the earliest phase of re-pricing risks and asset prices.
With fixed income in some serious trouble, the equity market game becomes all the more critical for all the players. And perhaps this is an important "mis-pricing risk" associated with the Fed's ongoing quantitative easing: investors hit with unexpected bond losses now increase their bets on inflated stock prices. After leading unsuspecting savers into the wild world of mis-priced fixed-income instruments, the Fed will apparently ensure the public becomes overly exposed to unappreciated risks in the US equity market.
As noted in my "Issues 2013" CBB from early January: A market bubble implies bipolar outcome possibilities. Either the entrenched bubble bursts or it becomes an issue of "how crazy do things get?" If the US stock market has evolved into the speculative bubble of choice, there are a couple things the Fed might want to contemplate. First, QE may now work to spur similar late-cycle speculative excesses that are now coming home to roost throughout the fixed-income universe. Second, inflating stock prices may work to pull additional liquidity away from an already liquidity-challenged bond market. It is, after all, the nature of liquidity to seek the inflating asset market".
Source :AsianTimes
Doug Noland
