Feeding the Beast (8/26)

Here’s this week’s MarketShadows August 26 2012: Feeding the Beast


The rally on Friday was triggered by a letter released by Ben Bernanke to US Rep. Darrell Issa, which was also leaked to the WSJ:

“Federal Reserve Chairman Ben Bernanke, in a letter responding to questions posed by U.S. Rep. Darrell Issa (R., Calif.), chairman of the House oversight committee, defended actions the Fed has taken to support the economy and said there is room for the Fed to do more.

“‘There is scope for further action by the Federal Reserve to ease financial conditions and strengthen the recovery,’ Mr. Bernanke wrote in a letter dated Aug. 22, a copy of which was obtained by The Wall Street Journal.

“The Fed’s ‘Operation Twist’ program—buying long-term Treasury bonds and selling short-term securities—is still ‘working its way through the economic system,’ Mr. Bernanke said. The program was first launched in September 2011 and in June 2012 was extended through the end of this year.” (Bernanke Letter Defends Fed Actions)


The WSJ article was written by Bernanke’s well-known mouthpiece Jon Hilsenrath. Karl Denninger noted that the Fed has a long history of countering weakness in equities by releasing information that “sends bears running for the door.” It’s part of the game the Fed plays and reminds us that stock prices do not reflect price discovery so much as they reflect the Fed’s manipulations. Karl Denninger continued:

“That such a gambit was inbound and was almost-certainly leaked to certain special insiders was also rather clear from other patterns. Specifically, the selloff had a well-below normal TRIN the last couple of days for market conditions and in addition there’s simply no big “fear position” in the VIX, in the internals, or for that matter in the A/D line…

“Of course all of this movement and response might be nothing more than the Pavlovian response — any time there’s a dip one should accumulate into it, because Bernanke will come save the day…

“This sort of casino mentality is nothing new. What’s ugly, however, is that this is all the market is trading on nowdays.

“There’s been no material improvement in employment.

“There is no grand new paradigm shift in the economy taking place that grossly boosts productivity.

“There is no innovative new product or service that will drive broad-based gains in people’s standard of living.

“There has been no material drawdown in total systemic debt, and federal deficits haven’t come in materially at all…

“When I look at the so-called “leaders” such as Amazon and Apple, what I see is a business model that either produces ridiculous P/Es and thin margins or worse, a fad-based business model predicated on margins that are sustainable only as long as people can keep refinancing their house and pulling out equity to blow on toys.

“That set of predicates went kaboom four years ago.

“Bernanke’s hall of mirrors appears to be singularly focused on keeping the last mirage of ‘prosperity’ — the equity markets — pumped up and ‘alive.’

“He will fail because the longer this continues the less bang he gets for each of his QE’d bucks.

“We’re in trouble folks, despite the S&P poking around 1,400.” (Pavlov’s Dogs In The Stock Market)


Pointing out Ben Bernanke’s history of poor judgment, Bruce Krasting questioned Bernanke’s confidence that he could undo his market-tampering without sending the economy into convulsive fits of unchartered pain:

“Issa questioned the risks the country faces when the Fed is ultimately forced to reverse its policies and begin to reduce the size of its balance sheet. Bernanke blows off those concerns with:

“‘The Fed will normalize the size of its balance sheet through gradual pre-announced sales in order to ensure that markets have an appropriate amount of time to make adjustments.’

“This statement is a lie.

“Bernanke has no idea what will happen to the credit markets once the Fed starts selling the trillions of bonds it has bought. The Fed has never done this before in history. How can Bernanke be so confident of something when there is no road map? To believe that it will be just as easy to sell bonds, as it has been to buy them, is just ridiculous. When the Fed does start selling, the capital markets (and the economy) will shudder. Bernanke knows this is true.” (On Ben and Tampa)


In spite of the continued feeding of the stock market beast by the Fed’s QE policies, the economy is not significantly improving and we are not better off than we were before. A study by Sentier Research shows median household income fell 4.8% to $50,964 since the recession ended in June 2009.



Looking at the middle-tier median household income and net worth from 2000 to 2010, Pew Research concluded that the middle class suffered its “worst decade in modern history.” Income fell backward for the first time since World War II. Moreover, “Household Income Fell More in Recovery Than During Recession.” Although household income is up from its low in August 2011, it is still 7.2% below the December 2007 level. (Maybe It’s a Language Problem?)




The disparity in share of income also has been changing for the worse. In 1970, the share of U.S. income going to the middle class was 62%, while the wealthy received 29% of income. By 2010, the middle class took only 45% of total income, while upper income Americans received 46%!

Many don’t seem to appreciate the shift in wealth from the middle to the very highest class. Mick Norton (Harvard Business School) and Dan Ariely (Duke) conducted a study in which they asked about inequalities in America. When respondents were asked to group Americans into five wealth brackets of 20% (top 20%, next 20%, etc), and asked how much wealth was concentrated in each bracket, their answers reflected very incorrect assumptions. “The reality is that the bottom two buckets together, the bottom 40% of Americans, own 0.3% of the wealth; 0.3%, almost nothing, whereas the top 20% own about 84% of the wealth.”

Many middle class individuals were part of the group of 6.1 million workers displaced from jobs they had held for at least three years during 2009-11. Of those, only 56% were reemployed by January 2012. That’s seven points better than measured in the survey two years earlier, according to a new BLS report. Of reemployed full-time workers, 46% were earning as much or more in January 2012 as they did at their previous jobs. About one-third reported earnings losses of 20% or more.  Many of those jobs were lost due to the efficiencies of others. On the other hand, the huge U.S. trade deficit with China, fueled by Beijing’s actions to depress the value of its currency, displaced or eliminated more than 2.7 million American jobs between 2001 and 2011, according to the labor-friendly Economic Policy Institute in its latest look at the issue (Reuters).

In data going back to 1962, the core consumer price index (core CPI) has correlated with the 10-year US Treasury rate. The core CPI excludes volatile prices such as food and energy. The correlation between the core CPI and the 10-year Treasury yield is greater than the correlation between the headline CPI and 10-year. Since 1986, the Treasury/core rate correlation is even higher, close to 1. Paralleling the falling Treasury rates since 1986, prices (excluding food and energy) have been in a deflationary trend. “As commodity input prices rise, their transmission into finished goods is a cost-push inflation: because much of the commodities come via trade, the extra money leaves the domestic economy, and simply reduces local spending power, rather than recirculating through the economy to create inflation. This is why cost-push inflation is ultimately a deflationary force. This is why headline CPI inevitably converges on wage-growth.” (Matt Busigin at Macrofugue) (Note: Cost-push inflation comes from increases in un-substitutable commodity prices. Demand-pull inflation describes the price/wage spiral, as experienced in the US in the 70s.)



Across the pond, German Chancellor Angela Merkel and French President Francois Hollande met to discuss the tenuous situation in Europe. European Central Bank (ECB) President Draghi was set to announce a purchase program for European bonds, but sources are saying that the ECB has to wait for the German courts to weigh in on Sept 12 (Reuters).  Meanwhile, Merkel, speaking at a joint press conference in Berlin with Greek prime minister Antonis Samaras, noted that the conditions for Greece’s international bailouts remain in force. She said she was “deeply convinced” Greece will make every effort to solve its problems and sought to reassure Samaras over the country’s future in the Euro. Nevertheless, Merkel “refused to give Greece more time to tackle its ballooning debts.” (‘Deeds must follow words’: German Chancellor Merkel dashes Greek hopes of a reprieve over cuts)

Zero Hedge is more skeptical: “the Greeks remain beholden to their euro-zone overlords – having survived a few more months on the back of reach-around ‘bailouts’ and ponzi-financing – all in the effort of providing more time for the ‘rest of Europe’ to figure out how to handle the ‘Athens moment’ that is surely coming. With September and October critical ‘event-rich’ months, Patrick Young, of DV Advisors, provides the clearest and least ‘rose-tinted’ perspective on where Greece has been, where they are now, and where this will all end. From the forged application for euro-zone membership to Oz-like fantasies of growth and austerity targets that remain pipe-dreams (and are constantly being missed), the bold Irishman in this brief clip explains “Greece has not done anything to really help itself, missed every deadline its been given” and the PM’s comments on their ‘spectacular comeback’ clarifies the ‘utter delusion’ among the Greek political class because ‘Greece is bankrupt; full stop; game over’ and Merkel must agree to ‘let’ Greece leave the Euro…” (The Unvarnished Truth About Greece)

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August 26, 2012 Newsletter

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