Central Banks Keep Rates Unchanged, Further Pressuring the Fed

The European Central Bank [ECB] and Bank of England [BOE] both decided to keep rates unchanged Wednesday night. This only puts more pressure on the Fed.

Several commentators have noted (and I agree) that the Fed needs the cooperation of other central banks if Bernanke and co. wish to continue this cycle of rate-cutting without shredding the US dollar. The dollar came under tremendous selling pressure when the Fed began its cutting, dropping through the 78 floor on the US dollar index. While I haven't recreated the timeline, my guess is that it didn't stabilize until Saudi Arabia cut their rates in concert on the 2nd FOMC cut in October and when the Bank of Canada dropped their benchmark rate to relieve upward pressure on their currency.

While I don't prescribe making market-timing decisions based on macro-economic conditions such as current interest rates or recession probabilities, it would be extremely foolhardy to ignore current conditions when deploying capital. In fact, I would argue this is one of the great misunderstandings of Warren Buffett's philosophy -- if people think he does exclusively bottoms-up analysis with complete disregard to current industry or economic trends. There are several examples to support my assertion (his Squanderville article, his foray into silver, the recent railroad purchases, among others).

I ascribe to an absolute, rather than a relative, value investing philosophy but it is paramount to remember that value, even if not relative, always has a context. See the stock market in Zimbabwe for confirmation.

Bottom line, for reasons I will lay out in future postings, I have recently shifted my view on the severity of the fall-out resulting from this current credit and economic crisis. While I have no doubt that the US dollar will depreciate over the intermediate term, my view is that institutions in developed Europe and Asia, along with China, will act to prevent or defer a complete collapse of the US dollar hegemony. It was this viewpoint that finally made me comfortable opening a possible position in American Capital (ACAS). However, this will require the central banks in Europe to cut rates. If they choose to focus on inflation instead, any U.S-centric investment may be a dicey proposition.

Needless to say, I will be monitoring the situation both here and abroad closely. For those who have precious metals in their portfolio, I would not take profits but rather risk a sharp pullback and hold as a hedge against any upcoming economic turbulence.