re: 7/24 economic commentary

[John Chang]

Again, what's happening with market price action has little to do with the news. I remember that old futures trader I knew once, he said something like this - consider the fruitfly. It lives for 7 days or so. The fruitfly does the equivalent of growing up, going to college, living as an adult, retiring, and kicking the bucket in the space of 7 days.

From the fruitfly's point of view we must seem to move slowly, and our actions must seem mysterious, perhaps even nutty. When it comes to the market, we're the fruitflies.

I've seen markets go up on news you would think would've sent them tanking. Others have seen markets sell off badly on news that should've made them go up.

From where I'm sitting, the gold market doesn't look that bad at all. We're moving away from the trough of the cycle, and the price is not at all nutty. I thought $650 in May was nuts, plain, stark-raving nuts. And then we proceeded to see $720. Even nuttier. But $620 right now is pretty reasonable, in my opinion. Could be wrong, though.

I can't wait to see what the Indian festival season brings. That starts at the end of September and builds to December, which happens to be the peak of the gold cycle.

 

[Mike]

Actually, to give the devil his due, such a calling off of investigations into hedge funds is another example of how the world economy is being propped up by temporary measures. In other words, the investigation might cause what would be a normally healthy crash in hedge funds while calling off any regulation or investigation can buy a little time.
Here is a good graph that shows exactly how the world economy has been kept afloat for far longer than most of us doomsayers could have predicted: liquidity injections! And large hedge funds are a covert way for central banks to inject massive liquidity into markets, since they are seen as "too big to fail" and hence backed by central banks. Central banks have several ways to use large hedge funds for this purpose.

Below is one take on how the liquidity injection was performed. This fits with the topics of the 'Yen Carry Trade' and why treasuries have been so strong despite the huge and growing US triple deficits.
http://www.jsmineset.com/ARhome.asp?VAfg=1&RQ=EDL,1&AR_T=1&GID=&linkid=3671&T_ARID=3740&sCID=204&sPID=2&cTID=0&cCat=&PRID=0&cSubCat=&archive=&highstr=&UArts=

This plan was adopted when the Federal Reserve in the Bush Administration observed the US economic situation as negative and anticipated an impending recession.
The unique nature of this non-traditional method of monetary stimulation and international money creation is that there is NO practical means of draining the liquidity. This is because the transaction cannot be reversed. It is this reality that has the world's central banks scared to death. For this reason all their powers of persuasion (market manipulation and media influence) are now being utilized in a multilateral and concerted effort. It is a futile attempt to avoid having to drain out what was put into the international monetary system by reversing the transaction.
In the end the bond market will reverse it for them and gold will exceed $1650.
The following is what the Electronic Money Printing Press is:
1. Japan experiences a demand for the yen which is not welcomed by the Bank of Japan.
2. In order to stave off an appreciation in the yen, the Bank of Japan needs to create yen in order to sell it to buyers who offer US dollars in return.
3. The Bank of Japan borrows yen in the same manner as the example below, whereby the US or any other nation can create money in their insular systems.
4. The difference here is there is no time for a natural creation of money via the many steps. The Bank of Japan needs dollars and they need them now.
5. The Bank of Japan enters the yen/dollar 24 hour market selling the borrowed yen, receiving dollars in return.
6. The bank of Japan is now drowning in US dollars, but only for a very short time.
7. The Bank of Japan electronically transmits dollar money wires to the Federal Reserve Bank of New York.
8. The Federal Reserve Bank of New York many times with a 24 hour day receives these wires and deposits them in the Japanese Float Account at that bank.
9. The Federal Reserve Bank of New York is the investment manager of the Japanese Float Account.
10. With the knowledge of the Bank of Japan, the Federal Reserve Bank of New York utilizes 100% of each bank wire as it arrives to enter into the international market for US Treasury instruments, buying US Treasury bonds all across the maturity curve from the shortest out to 30 years.
11. This fuels a bull market in the US Treasury market.
12. This bloats the US TIC report on inflows of capital into the US.
13. The New York Federal Reserve Bank, by buying the bonds for the Japanese Float Account at that bank in the open market, places dollars in the hands of worldwide sellers of Treasury instruments.
14. Because the international US Treasury market is a private market the increase in liquidity is huge, quiet and everywhere.
The reason this transaction cannot be unwound is because the method would be selling all those bonds that have been accumulated for the Japanese Float Account at the Federal Reserve Bank of New York into the open market. That is a practical impossibility as even the huge international market in US Treasury items cannot absorb such a supply.
This transaction is totally different in its manner and impact than subscribing to an issue of US Treasuries at auction on behalf of a non US buyer, which is customary.
This is the non-traditional method Professor Bernanke utilized that liquefied the world in a short period of time. This attempt to support an international economic recovery is now hitting home with its inflationary impact. This is beyond huge and happened over a short period of time compared to traditional methods. The results cannot be stopped because the liquidity cannot be drained. Regardless of the games played to break the psychology of inflation, real inflation will be delivered in an unprecedented proportion and non traditional manner.

So the liquidity becomes the savior of the system and at the same time a menace.

http://today.reuters.com/news/newsA...1Z_01_L24613325_RTRUKOC_0_US-ECONOMY-CASH.xml
Bubbles caused by cheap cash menace world economy
Mon Jul 24, 2006 12:56 PM ET
By Stella Dawson, Chief ECB Correspondent
FRANKFURT (Reuters) - Call it the weapon of financial destruction. There is so much cheap financing sloshing around the global economy, despite simultaneous interest rate tightening at the world's three major central banks, that some analysts warn that financial bubbles are bound to keep building.
This could threaten a robust global economy, and it would take a gradual global slowdown and higher central bank interest rates for quite some time to avert the problem, say financial and investment analysts.
"Monetary authorities have lost control of money," said Brian Reading, director at Lombard Street Research, a London macroeconomic forecasting company in a research note.
His statement is provocative, and few economists are willing to go quite that far.
But there is widespread concern that global liquidity conditions -- measures of real policy rates versus how much money and credit circulate worldwide to finance growth -- remain very loose despite a bout of central bank tightening.
The Bank of Japan this month joined the European Central Bank and the Federal Reserve in hiking official rates, marking the first time in many years that central banks in the world's largest economies were tightening policy simultaneously.
Yet Claudio Borio, head of research at the Bank for International Settlements, estimates that global liquidity conditions remain very generous.
Borio calculates in a recent research paper that the official policy rate charged by the G3 central banks, adjusted for consumer inflation, is about two percentage points lower than the average real G3 policy rate over the last 15 years.
Additionally, growth in broad money and in credit to the private sector have grown by about 26 percent since 1995 relative to nominal GDP while inflation remained quite stable.
"It is hard to find a period in the post-war era in which inflation-adjusted interest rates have been so low and monetary and credit aggregates have expanded so much without igniting inflation" against a backdrop of strong global growth.
"One might even call this the Great Liquidity Expansion puzzle," Borio wrote. [...]
DANGEROUS WEAPON
These still-generous financial conditions leave a number of economists worried that the global liquidity boom is feeding a new asset-price bubble in real estate, and that just like the high-technology bubble of 1999-2000, it could end in a nasty financial meltdown, even global recession.
To prevent that, Morgan Stanley's global economist Stephen Roach said in a recent research note that central banks need to be willing to keep on tightening.
"The deeper question is whether central banks truly have the will to stay the course that they appear to be on," he said.
Lombard Street Research has dubbed this cycle -- where cheap central bank money fires up excess credit growth, which in turn fires an asset bubble -- a weapon of financial destruction.
"Every time you inflate a bubble with cheap money, you trash someone's balance sheet," said Stein.
"First corporate balance sheets, now the households and next the public sector. Where do you go to inflate the next bubble? And they bigger they get, the more difficult it is to get back into financial shape."

Gives an idea of the size of the Hedge Fund world created by all this liquidity injection.

http://www.newsmax.com/money/archives/articles/2006/6/9/133314.cfm
Emerging-Market Hedge Funds Take Hit
MoneyNews
Friday, June 9, 2006
A number of the hedge funds that jumped into investments in the emerging markets are now taking a shot - the result of a major stock sell-off in developing countries.
"Hedge funds investing in emerging markets dropped 3.98% in May, their biggest decline in more than 3 1/2 years, as concern about rising interest rates prompted investors to sell riskier assets from India to Chile," according to Bloomberg News.
The news service cites Brad Durham, managing director at Boston-based Emerging Portfolio Fund Research Funds. His company tracks 15,000 funds with more than $7 trillion in assets. He claims that "funds investing in emerging-market equities lost $8.4 billion from withdrawals in the three weeks ended June 7 ... Net outflows totaled $1.48 billion last week and $1.92 billion in the previous period."
Up to this point, such funds had been doing very well, "but in such countries, it is tougher to do what hedge funds are supposed to do best - hedge their bets - so this tumble has left some reeling," says The Wall Street Journal.
The paper cites an index from Chicago's Hedge Fund Research, saying that even after taking into account a 4% drop in May and Thursday's overall thrashing, emerging-market funds remain up 10.7% on the year.
Meanwhile, Bloomberg reports that the index "fell the most since September 2002 and the decline probably worsened yesterday when Asian shares had their steepest slide in two years, according to preliminary figures," while The Morgan Stanley Capital International Emerging Markets Index "which tracks 25 markets, is down 21% from its all-time high on May 8."