April 21, 2004 |
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Greenspan’s neighborhood is not made up of certainties. Rather, the intentions of central bankers is to try and sculpt financial realities. As the word ‘inflation’ rears its ugly head, Mr. Greenspan sings a Mr. Rogers lullaby: As the above chart aptly demonstrates, the year on year increase in the CRB has been both strong and long since 2003. With this in mind, what was considered an impossibility 20-years ago has become a reality today: as commodity prices surged during the last year interest rates actually declined. What Comes Next Assuming the Fed is serious about reacquiring some monetary ammo and/or beating back inflationary forces, Greenspan and company must now lay the groundwork for some interest rate hikes. Historically – the post Asian crisis in mind - Greenspan has not been shy about hiking interest rates under the guise of ‘taking back’ some of the Fed’s previous cuts. This tactic would work today so long the hot US housing market doesn’t implode, stocks do not crash, and foreign interest in government bonds doesn’t suddenly evaporate (sending T-yields sharply higher). Yes, with these threats in mind – threats the Fed’s anti-deflationary flight helped make more ominous - what comes next is a lot of uncertainty. Market Reaction To Greenspan’s Words Precious metals have been feeding off of the weakening dollar for some time. Moreover, speculators have been supporting gold/silver even as the commercials padded their net short positions. With this in mind, the jig - which will probably never be up baring a US dollar calamity – has not proven to be up, and silver continued its violent descent following Greenspan’s comments. Reacting to the stronger dollar gold has also crashed back below the $400 an ounce level. Wipeouts of the variety now being witnessed in precious metals - although the route in silver was one of the most dramatic in decades - are commonplace after run-ups. Incidentally, the suggestion that I made to sell some silver earlier this month was not prescient. Rather, even though I did trim my silver stake earlier this month, I still own gold/silver for long-term today. Stocks declined modestly following Greenspan and, after bonds were scared lower, the yield on the 10-year is zeroing in on yearly highs. That overvalued stocks declined in the face of strong quarterly earnings reports is irrelevant. Remember, inflation is the buzz word. Conclusion Although ‘artificially’ influencing long-term interest rates lower may, eventually, have a deleterious impact on the financial markets, the fact remains that by warning of deflation the Fed found a new tool by which to craft monetary policy. In other words, as the Fed ran out of rate cut ammo they loaded up on rhetoric: ‘buy stocks and bonds because interest rates are so low and interest rates are going to stay low!’ Even so, warning of the threat of deflation is not the same as warning of inflation. To be sure, after promising to keep |