Usually every January I spend time on my yearly predictions. But, this year is different. The stock market continues to climb the wall of worry, but that is not the story. I want to tell the real story.
We are in the beginning of the American political season. While folks are debating Republican candidates, and who can beat Obama…….blah blah blah…..the truth is Banks and Monetary Policy hold all the cards. There are MANY moving parts and this is what makes forecasting SO hard. So, I will not.
The Epic battle of the Financial Ages is not “Good vs. Evil”, “Blue vs. Red”, or even “US vs. China”. Folks, the real battle is Inflation vs. Deflation.
Now if the Central banks around the world did not ease monetary policy over the last few years, this contest would be EASY……Deflation would be the winner. De-Leveraging out of the greatest debt bubble of our time, the only outcome is deflation. But, when Central Banks pumps liquidity into the system, it fights the forces of deflation. Our world economic markets are played by a finite number of big players and professional traders. The regulation (that is another story) allows for leverage and allows these players to play with “house” money…..read….will be bailed out by Governments. The consequences of these actions are hard assets (besides housing) go UP. The reason is that financial players have to invest somewhere and there is only a finite number of assets. So, over the last few years we have seen Oil, Gold, Commodities in general, Stocks, Bonds go UP. When these assets go higher, especially Stock Markets, it plays into the perception of a positive wealth effect. Basically, folks “feel better” if there 401k and investments are higher. They SPEND. Now, this is better than situation we were in March 09 when the bottom was falling out of the stock market. Investors and 401k holders were scared that their accounts would become 201K’s. So, Bottom Line……………..monetary policy, for the moment has “worked” to perpetuate the perception that it is All Good.
Debt: The world economy is de-leveraging from a debt bubble. The world economy runs on Debt = Bond Markets. Lately, there has been a lot of news regarding the Euro, and the European Debt Crisis. This basically means that the European Banks are INSOLVENT, like the US Banks were in 09, but, again monetary policy is letting them earn there way out. Now that sounds great, but the risk is the citizens around the world are on the hook if anything goes wrong. WHY? Basically it is a “Too Big to Fail” situation. WHY? Bond holders (i.e. Banks and Financial Players) refuse to take a loss. What? Yes, if me or you make a bad investment or take out a bad debt we cannot pay….tough. World Bond Holders are balking at losses, and crying that if they DO, well…….Armageddon. Ahhhhh, well, fear always works huh?
Let’s get back to the real world and predictions. The TRUTH = No ones knows. The markets (Stock, F/X, bond, commodities, Bond) are being held hostage. Players are having to make irrational decisions. The choices they have is INFLATION VS. DEFLATION. When you watch CNBC, they call it “risk ON trade, or risk OFF trade”. Excessive monetary policy is sort of like training wheels. Right now the world economy is fragile, but has about 10 training wheels on. It is a fact that if these wheels came off, the “risk OFF” trade would overwhelm. The question becomes, can adding training wheels get the world back on track, and once “back on track”, can the central banks EVER pull the policy back? Answer NO.
So, we continue on with easy money training wheeling the whole way. Players are pushing the “risk ON trade” to the limits. Hey, if fiat money hits the tipping point, and Inflation wins……well everything skyrockets. Dow at 40K, Oil at 300, Gold 5000K…..but if monetary policy does not win……well it is a race to the bottom for all those assets. US bonds will probably move in the opposite direction, the VIX will skyrocket…..F/X markets will become a circus.
Predictions this year are pointless. Finance is at a global tipping point. Financial Players are paid to make money, so they will invest and try to time markets. All I know is the sidelines are safe and a bowl of popcorn is warranted until the winner is confirmed. INFLATION or DEFLATION.