Funds Flow, Priming Markets for Another Fall

by: Atim Kabra

Time to suck liquidity from the system

Stocks are pricing in a return to normality of earnings seen in the past few gung ho years barring mid 2008-09 (or abnormality : take your pick). And the hope is that China (4.95% of the world's GDP) and India (1.7% of the world's GDP) would lead this growth while the US (24% odd percent of the world's GDP) continues to suffer from unemployment woes and diminishing consumer spending (lower absolute spend and weaker spending power due to a falling US Dollar). High hopes in my opinion.

Markets are celebrating a slowdown in the speed of the fall in growth (as if it was an unending process and the speed of decrease would keep on increasing every month). This is the reverse of what we saw in February 09 when the pendulum swung to the other extreme side and markets expected the world to come to an end. How short term can one get in thinking through the process? Key to the puzzle is Fund flow dynamics which creates a momentum of its own and has the strength to defy logic over an extended period of time. The banks are recapitalized by the US treasury and the accounting norms have been relaxed. Money which should have gone in for repairing and strengthening the balance sheet and provisioning for past misdeeds is floating around looking for new grounds to speculate in.

One can understand that the Fed needed to remove the doomsday fear threatening to bring mayhem to the world. However, now that normalcy is restored, it should move real fast to suck up the money flow from the system. I am quite sure that post an initial hiccup or so, markets will applaud the sagacity of attempts to suck out excess liquidity from the system. The Fed's job is not to please the stock market, and markets are not the best short term indicator for the economy.