If you’ve been wondering why the market has been on a tear at the same time the FED is raising rates, then now is a good time to look under the hood.
Prior lowering of interest rates opened up a floodgate of liquidity that had nowhere to go but speculative assets…stocks…cypto… SPACs, etc.,
And as usual the FED wants you to believe all of that inflationary euphoria is behind us. But is it really?
Let’s take a look at what has been happening over the past few weeks and see what’s in store for the markets as we move forward.
A few weeks ago I wrote a post about a comment J. Powell made at the February Meeting. You can read about that here. For me the most striking comment had to do with his mentoning that the FED was the “fiscal agent” of the US Treasury.
What this means is that whatever the Treasury wants the FED provides. If the treasury needs to issue more debt to satisfy the insatable appetite of the profligate government spenders and inept corporate managers, then that’s what the FED will do.
And just like clockwork, quantitative tightening went out the window like the baby with the bathwater.
Of course J Powell won’t admit that’s what’s happening.
For his part he says rates are likely to rise, which in the real world should mean quantittive tightening and a reduction in inflation.
Here is what is really happening.
When the FED wants to inject liquidity into the markets, it buys debt from the Treasury and other sources such as money center banks. This increases reserves in those institutions and makes more credit available to borrowers. This action also artificially lowers interest rates and leads inevitably to inflation and speculation.
The FED takes the opposite action, when it wants to remove liquidity from the market. It sells seurities into the market and the money center banks buy up these securities. Presumably this is supposed to reduce liquidity and inflation. But does it really? One thing for sure raising rates makes it difficult for businessess to access the credit markets for needed operating capital.
The FED is engaged in a double handed policy of taking with the right hand and giving us inflation with the left hand,
Curiously enough, as the FED is removing money from the system, it is simultaneously injecting money back in.
Unfortunately this isn’t working as planned. Inflation is not coming down as he FED had hoped.
Quantitative tightening and quantitative easing at the same time can be a very dangerous game!!
Read here about the increase in liquidity in the banking system. The FED would like to change course, but it is constrained by reality from doing so.
If raising rates is supposed to decrease inflation, but injecting liquidity leads to increased inflation, where does that lead the markets? This is a very confusing policy.
It makes markets much more volatile, which we have witnessed all month, especially in those nasty speulative assets once again. Speculative assets have increased over 20 %, since the FED spoke of raising rates on Febuary 1, 2023.
Ask yourself. Under what circumstances does anything increase in value 20% in 6 weeks?? I think you’d agree it’s time to be very cautious.
Hopefully you are keeping your eyes on your portfolio and have a plan to hedge, if things get dicey. These are not the times to be wildly speculating with your hard earned savings.
Trade small and be safe.
If you have any questions or thoughts about this topic, please leave them in the comment section below