January 12, 2011 |
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“If the crisis has a single lesson, it is that the too-big-to-fail problem must be solved” Ben Bernanke. September 2, 1010 |
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Unconscionable or not, the statistics released by the Fed in December speak for themselves: $3.3 trillion (at its peak) in emergency lending to primarily large financial firms. As for Mr. Bernanke’s March 2010 epiphany, at the same time he was decrying ‘too-big-to-fail’ the Fed’s emergency TAF program was dolling out more than $3.5 billion to U.S. banks and the Fed’s emergency TALF scheme was kicking out billions more to numerous LLC’s. Remember, these and other activities were taking place when the Fed was supposedly focused on an exit strategy (from unprecedented monetary interventions), and Bernanke was giving a speech entitled “The Economics of Happiness”. In this speech Mr. Bernanke claimed, rather prematurely, that with regards to the 1930s, the ‘lesson has been learned”. This is not to say that the recovery is built to last. After all, remember that all of the 8.1 million U.S. jobs created by rising asset prices and debt from September 2003 to December 2007 quickly vanished during the crisis. Bears Will Have To Wait! Along with the improving economic headlines, the problem with being a starving bear is that capital flows and sentiment trends have turned decidedly bullish. We see these trends in the Investor Intelligence and related surveys and complacent readings in the VIX, but also, more anecdotally, by the fact that Abby Joseph Cohen and company are yelling it’s time to “Get Back Into Stocks!” and a jolly Lawrence Kudlow is interviewing a jolly Donald Luskin. Having watched the 1990s mania unfold and the 2003-2007 ‘recovery’ keep rolling along, these episodes of acute optimism have a way of feeding on themselves, often times for longer than common sense would deem possible. As for those that take a contrarian bent – since no one is bearish now must be the time to be bearish! – this attitude is definitely warranted insofar as a market correction is concerned. However, the sentiment may be misplaced if speculating on an immediate bear market. Quite frankly, in direct contrast to all of the optimism to be found is the fact that equity fund flows have only started to turn positive after more than 7-months of steady outflows. Will, after months of market gains, the average American play the role of sucker once again and return to U.S. equities en masse? There is this possibility. Finally, beyond the obvious trends sits another, more layered observation in that the world needs the U.S. more than the U.S. needs the rest of the world. As a quick example, the dysfunctional U.S. dollar can catch safe haven flows regardless of its horrendous fundamentals because the Euro is in a more dire state of dysfunction, because China strictly manages its currency, and because numerous countries do not want the dollar to fall (at least not yet). The same story holds for U.S. equities, which if being priced solely on earnings valuation or Fed model view, are attractive compared to other parts of the world. As for the potential obstacles leading into 2011, they include a more widespread Euro-crisis, a blow-up in China, a global bond market meltdown, a municipal bond crisis, another real estate down-leg, inflationary pressures, a dollar crisis, a commercial real estate crisis, wars, etc. With the possible exception of raging commodity prices – which owe part of their resurgence to Bernanke’s printing press – none of these events is likely to derail the U.S. recovery. Rather, the story is that of U.S. policy makers unleashing waves of stimulus, increasingly risk-enamored investors taking to surf, and global policy makers terrified of rocking the boat. Untenable and dangerous as this situation might seem, unexpected obstacles simply exhume a ‘more of the same!’ response. And while these events may make the next crisis that much larger, they also impart a resolute attitude of recovery that is difficult to ignore. In an effort to clarify a very complex condition: the U.S. economy will either continue to recover or the financial markets, U.S. dollar, and U.S. government as we know it will completely collapse. This all or nothing outlook is what happens when debt, asset prices, and policy ammunition myopically fixes its gaze on short-term GDP advances… Conclusions For the moment the world needs the U.S. more than the U.S. needs the rest of the world. This is what 2011, and beyond, is about. Only when this fact changes or investors reacquire an aversion to risk will the outlook for continued recovery materially change. In this environment the investment alternatives are few, while the opportunity for speculation is strong. Paying little attention to the latter, the story is that of being extremely selective in equities, weary of mispriced fixed instruments, cognizant of your currency exposures, and maintaining an exposure to precious metals. As for the dream that one day financial institutions will be stable/strong enough to be broken into smaller pieces, and that these pieces will never again be permitted to hold the Fed and American public ransom, this remains simply a dream. Another year of living dangerously ensures that further obstacles to meaningful reform will be erected in the shadows, and that another financial crisis is preordained. |
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