"How many legs does a dog have if you call the tail a leg? Four. Calling a tail a leg doesn't make it a leg." - Abraham Lincoln
Stocks declined marginally last week ending a strong string of gains as investors digested the latest minutes from the Federal Reserve indicating that new stimulus may be pushed through. Some volatility has crept in, however, given uncertainty over near-term policy action in the face of economic data which is improving. On Wednesday, I was asked on CNBC (http://video.cnbc.com/gallery/?video=3000110151&play=1) if the Fed really had room to act on another round of Quantitative Easing in the face of an economy which is not contracting. My response was simple - the Fed has a long history of overreacting to weak growth, which in turns creates booms but inevitable busts afterwards. Given paranoia over not reaching escape velocity in the economy with the fiscal cliff looming, it would make sense for the Fed to want to act sooner rather than later to help counteract future headwinds.
Having said that, make no mistake that even though the media continually refers to "QE3," the reality is that Quantitative Easing already happened. Ed Dempsey and I have long argued that the fear trade and negative narrative caused QE3 to be you and me, pushing rates to all-time historic lows. Here we are with the S&P 500 near record highs, and a recovery underway in housing, both of which are more stimulative to the economy than central bank action. More so than that, however, consider that there could be a 4th quarter surprise in economic activity as a lagged response to historic low interest rates on the long-end of the curve. People tend to forget that low rates act with a lag on the economy. What this means is that 30 Year Treasuries hitting historic lows has not yet filtered through into the economy just yet.
I suspect the Fed is less important now than most think. The world is ultimately waiting on the European Central Bank to explicitly announce its own form of quantitative easing through targeting and capping government yields. Those that have been following my media appearances are aware that I brought up this idea a few months ago as the most likely course of outcome for Europe. By putting a ceiling on Spanish and Italian bond yields, the ECB can keep the pressure on governments to continue austerity, but not to the point where contagion and a 2008 repeat happens. Prevent the event (or at least the perception of it through a bond ceiling), and rally on.
Indeed European equities have markedly improved, which is bullish for global markets given the benefits of rising collateral values on easing economic strain. Should the People's Bank of China also begin to act, then Chinese stocks which are at March 2009 levels could also begin to rally meaningfully and increase animal spirits. As Ed Dempsey stated in our latest "Inflation Rotation Watch" video (http://www.youtube.com/watch?v=ZJhiSLu6dR8&feature=plcp), ATAC has been flirting with emerging markets which we expect will be the next leader within the global equity landscape in the very near future. We remains fully allocated to equities as inflation expectations continue to increase.
One final note on markets I think is worth addressing. The Summer Surprise and "end to the end of the world trade" which I wrote about on June 20th (http://www.marketwatch.com/story/the-end-to-the-end-of-the-world-trade-2012-06-20) has indeed taken place, and intermarket trends suggest this move is not over yet. I have seen many pundits argue that the entire rally is driven by central bank hope and action. I find this to be rather curious since factually the U.S. stock market has been strong all year with the exception of the May "mini-correction" in the absence of aggressive Fed or ECB policy action. That aside, even if you were to argue the market is rallying on hope, doesn't it always? The future is always unknown, which means by definition any kind of uptrend is ultimately driven by hope - the hope that our vision of it plays out the way we think. If the environment is indeed characterized by central bank policy action, does that mean one should not take advantage of it? We remain highly positive on stocks, and believe that the potential for a chase into risk-assets is high by money which has badly lagged the S&P 500 this year.
On the business front, we are nearing the final stages of our upcoming mutual fund to be launched in September and which will be offered alongside our separate accounts. We are also going to be bringing on some new faces to the firm, one of whom may actually be familiar to long-term viewers of CNBC and CNN. Finally, please feel free to email comments as it relates to our website (newly re-designed) and this e-newsletter, which as I mentioned is now being handled by a new company.
As always, thank you for your interest in Pension Partners, and feel free to reach out to us any time.
Michael A. Gayed, CFA
Chief Investment Strategist
Pension Partners, LLC
Summary of Writings Published Last Week:
The Lead-Lag Report: The Bull Rebellion Strengthens - http://www.minyanville.com/business-news/markets/articles/gayed-michael-gayed-energy-xle-oil/8/21/2012/id/43357
Gold to Bears: Pay Attention - http://www.minyanville.com/sectors/precious-metals/articles/gold-stocks-ben-bernanke-interest-rates/8/23/2012/id/43453
Are the Melt-Up and Summer Surprise Over? - http://www.marketwatch.com/story/are-the-melt-up-and-summer-surprise-over-2012-08-22
Silver Looking Brighter than Gold - http://www.forexpros.com/analysis/silver-looking-brighter-than-gold-133569
Whispers of a Gold Resurgence - http://realmoneypro.thestreet.com/articles/08/26/2012/whispers-gold-resurgence?cm_ven_int=homepage-featured
This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.