Fed's Flawed Playbook Is Scoreless

Includes: DIA, IWM, QQQ, SPY, VTI
by: Carlos X. Alexandre

The surprise delivered by Ben Bernanke with the FOMC voting to keep QE3 intact is well documented by now, and markets are adjusting to new guidance, whatever that is, while the underlying economic message is less than inspiring. During the press conference a reporter asked "Was it a surprise?" It certainly looks that way and it was a calculated risk because equity markets floundered after Mr. Bernanke's remarks a few months back, jeopardizing the Fed's strategy. Be careful what you wish for Mr. Bernanke, and please revisit the story about the boy that cried wolf. As an additional interesting point, during the press conference Mr. Bernanke dismissed the falling labor force participation rate as a structural and demographic phenomenon. Don't bet on it because if people are getting older and not seeking employment, they don't need houses, and the Fed chief cannot have it both ways.

At this juncture I don't know what the Fed is looking for, at least publicly, and I suspect that neither do they. Just in case someone is wondering, deflation is still the Fed's problem. Then less than 48 hours after Bernanke told us that QE3 would remain unchanged, St. Louis Fed President James Bullard opined that "it's possible you get some data that change the complexion of outlook and make the committee be comfortable with a small taper in October," and markets adjusted once again. Maybe a variation of a few thousands of one percent in some data series in the next 30 days will be the straw that broke the camel's back. Impossible to comprehend!

So let's pump stocks again because that is what the Fed's playbook dictates. The reasoning is based on the well known "wealth effect," but, unlike a decade ago, many Americans no longer can engage in spending based on paper profits that don't exist. Over the last five years, many were forced to pillage whatever assets they had -- retirement accounts included -- and that is the main reason why only the upper echelons of society, from a financial measurement, have benefited from the Fed's experiment. Low rates and mindless bond buying have failed to stimulate the economic engine by any stretch of the imagination, and the housing industry will be entering a new declining phase in short order as the demand from investment firms runs its course, as highlighted in "Distorted Housing Market Gives False Hope."

In addition, the lower rates that Greenspan delivered over a decade ago, fueling the housing boom that wasn't acknowledged by the Fed until it cratered, were absorbed by a population with a very different outlook on the future. Now many of them have been bitten by the dot.com bust and the housing debacle and are in no mood, or unable to gamble again. A recent poll indicates that the underlying economic damage of years past continues to take its toll.

Twenty percent of U.S. adults - one in five - polled last month said that at times in the past year they did not have enough money to buy food for themselves or their families, according to Gallup's findings. That's nearly as many hungry Americans as in 2008, when the nation was submerged in its deepest economic slump since the Great Depression nearly 80 years earlier, the national polling firm said.

Furthermore, a report by Sentier Research showed that "the average American household is earning less than when the Great Recession ended four years ago," registering a 4.4% decline between June 2009 and June 2013. Yet the recent data for auto sales showed a 17% increase in August "to a seasonally adjusted annual rate of 16.1 million units," and the "fastest pace since October 2007." But there's more here than meets the eye, and data from Experian Automotive "shows auto leasing hit a record high with 27.6 percent of financed new vehicles purchases in the second quarter being a lease." By comparison, only "three years ago, just 17.7 percent of vehicles bought with financing were leased."

Todd Skelton, who oversees AutoNation dealerships in Palm Beach and Broward County, Florida, said customers are now hunting for the lowest monthly payment with a new car or truck, and often that means taking out a lease.

We're still squeezing every penny to keep up with the Joneses, especially since home equity is no longer the financing source that it used to be, and it is of the utmost importance to ignore the Fed's linear, unreliable and somewhat rosy projections and look for the "anecdotal" evidence and subtle hints that abound. In another report, "More Americans are buying homes in all-cash deals," which in itself says a lot about the effects of QE and the influence investment firms have on the housing market.

All-cash purchases accounted for 40% of all sales of residential property in July 2013, up from 35% during the previous month and 31% in July 2012, according to data from real-estate data firm RealtyTrac released Thursday. That's the second highest rate since the survey began in January 2011 - second only to 53% in March 2012.

Getting back to Bernanke's press conference, he mentioned fiscal policy and, to that end, what we have is increased government debt supply which in this case translates into higher rates because there's only so much money to go around. In addition, let's not forget Europe and their ongoing appetite for debt to keep the old continent afloat and give the false sense of solvency.

In defense of the Fed, the institution is entrusted with maintaining "maximum employment, stable prices, and moderate long-term interest rates," statutory objectives that were set by Congress. Ah, Congress, the source of all wisdom. Well, never mind! As I see it, fighting inflation is a task that can be accomplished by raising rates to the sky, but deflation is not so simple. Maximum employment? Dream on, because there are far too many moving parts over which the Fed has no control. Expectations from the institution are extremely high and unreasonable, although the Fed thinks that it is far more powerful than it actually is, and is not very good at evaluating itself and understanding its limitations.

The Fed can play all sorts of market games, but, economically speaking, they're virtually irrelevant, while the institution's only specialty lies in the ability to bust runaway bubbles, not prevent them. Just ask Greenspan how the Fed Funds rate 4.25% increase -- 1.00% to 5.25% -- between June 2003 and June 2006 worked out. Only 2-1/2 years later the Fed Funds rate was decreased to 0%, easily showing that the Fed is constantly chasing its tail. So much for price stability, never mind maximum employment. The Fed is an institution with a budget around $3.5 billion and a balance sheet worth $3.5 trillion that spends its days adoring useless number crunching, and is far too intellectual for its own good.

I recently attended a Demi Lovato concert at the Los Angeles County Fair with my teenage daughter (bonding process) and feel that Ms. Lovato can teach the Fed plenty. She knows her business (great performer), knows her audience (thanked the parents for their support), and knows how to communicate (told everyone, young and old alike, to stay off drugs and alcohol). I shall also borrow a quote from Ms. Lovato that she delivered during an episode of the "X Factor" (still bonding) after a contestant completed the audition: "You're like an elephant trying to skydive with a tiny parachute in a room." That's the Fed! Now that Summers dropped out, will Yellen or anyone else, including Mickey Mouse, be better? Not really. Simon Cowell should be invited to the next press conference because his bluntness would be refreshing, embarrassing to the usual suspects and funny.

From a stock market perspective, plenty of forecasts have been delivered by a wide spectrum of individuals and institutions and I will not add anymore because, frankly, I don't know. Only as an example and not a personal attack, Gina Martin, a Wells Fargo strategist is calling for a market plunge, and she "has been bearish on stocks all year" while the S&P 500 is up 21%. I don't play those games because I don't have a crystal ball, and if anyone was so accurate, doubling their money every year would be a cinch. I also don't need the accolades of being right or the spankings for being wrong, and only seek to be profitable, year in and year out. However I am certain that the messaging is distorted and historical benchmarks were made to be broken, and keeping an open mind is the best strategy.

Despite the recent market gyrations, we proceed forward with short and long-term trends still positive across the board, and that is derived from technical analysis which is the stock market's equivalent of a political poll when read correctly. From a macro economic perspective, I advance that we have another twelve years of this misery and false starts, and with every false start consumer confidence will wane further. So stick with short-term tactics because that's all that is left.

As a concluding note, I no longer write as much because I am focused on "CXA's Generational Cycles," a theory that I developed, and a wider view of humanity through the title "Sexuality, Economics and Religion," which is closely related to the cycle theory above. My name will be attached to it so if there's even a hint of insanity and/or stupidity everyone knows whom to blame. The challenge that I extended in May went unanswered, as expected, and I will add another clue: "1959: The Year That Economics Changed And Nobody Noticed," to be published in November.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.