Y2K = QE2
By Erik Swarts, Market Anthropology
History shows us that each bubble needs a tragic muse.
The Nasdaq Bubble had both the allure and fear of a new millennium. Y2K was on one hand a software and infrastructure motivator, as well as a philosophical romance; drunk on the notion of a new era that would transform all that we understood and perceived about the world through technology.
With gold and silver today, it’s just as manic, evermore disturbingly romantic – and really just plain dark.
It’s a bubble with a raging mood disorder.
At once both manic and depressive. Currency debasement! Manipulated markets! The experiment that was the fiat monetary system is over! Raging inflation is coming!
Protect yourself!
In the end, the inflation debate is a matter of relativity and coordination. We are not the only ones intervening in the marketplace with a monetary policy stopgap approach – it is entirely a global effort. And while it does make for a juicy soundbite (that is typically 9 times out of 10 either politically motivated or borne out of ones position in the market), there’s a lot less hyperbole and a great deal more logic behind the Feds efforts than most give them credit for. Here’s the byline for the Financial Crisis for Dummies softcover:
The private sector stopped spending – the government filled the gap.
And although it is quite true that our current fiat monetary system is inflationary over the long run, the degree of distortions that are currently being reflected in both the precious metals market, the commodities market and the currency markets – likely do not reflect a representable correlation to inflation today, but more of a serious bubble in the commodities sector. I believe this minority opinion will prevail in the not so distant future as we emerge from the crisis relatively intact, albeit bruised nonetheless.
FT/Alphaville had a very interesting piece detailing the work from the boys at Deutsche Bank – that succinctly describes what I believe has been a massive misinterpretation by the risk trade into the commodity and currency markets.
“The $2 trillion in purchases have literally gone down a black hole. Required reserves haven’t been required to increase and the Fed reserve add has literally simply been hoarded as cash. Excess reserves at the Fed have subsequently soared by the same. In short, QE has been a spectacular disappointment in its impact on bank lending, whether via whole loans or securities. It was as if the banks conducted the very sterilization of QE that many thought perhaps the Fed should do to “contain” inflation expectations.
Risky security prices have risen since QE but not Treasuries, the main instrument of QE2. Yet banks’ balance sheets have gone sideways. Effectively investors have marked asset prices higher by the Fed from an investor simply triggered a series of deposit for security switches through the investor base with banks never making an additional loan. This is consistent with a greater concern for risky asset post QE2 end, than Treasuries. The danger for investors is that they confuse the result of higher asset prices as reflecting excess liquidity rather than “irrational” exuberance given that actual liquidity (as broadly defined by the banking system) hasn’t gone up at all.
- Dominic Konstam and Alex Li, Deutsche Bank”
While I agree with their descriptions of a rather large miscausation within the risk trade, I disagree with their disappointment with bank lending. Once critical mass arrives in the economy – bank lending will resume a glide path towards normalcy. Post financial crisis, both the private and government sectors perceive critical mass through the lens of the stock market – not lending. To their detriment, economist always seem to forget the psychological perspective to the argument. It is why accurate market forecasts are a hybrid discipline of both art and science.
From Lemons to Lemonade
Personally, I would never advocate the path that the Fed and Treasury have embarked on in the last 40 years. However, to the best of his ability, Bernanke has utilized the tools at his disposal to mitigate the collateral damage to the broader financial system.
I like Ben Bernanke, I really do.
There, I said it.
Don’t hate me because I chose the unpopular position – it’s an inherent character trait.
During these contentious times, I think he is about as balanced – without ego, smart and creative as we could hope for in a central banker. The pundits will always use every opportunity to argue his ignorance towards what they perceive as practical banking methods and how they should function during ideal market conditions. They will cite example after example, such as his downplay of the subprime crisis right before the broader credit crisis erupted, as proof that he is unfit to lead the worlds largest economy. And although he surely deserves criticism towards aspects of his communications and transparencies with the market, the net result of his bold monetary approach has been a system that avoided catastrophic failure and recovered much faster than almost anyone predicted.
And while I would never willingly choose the To Big To Fail paradigm, it has facilitated the efficiency and efficacy that the Fed could respond to illiquid market conditions. Granted, the crisis was magnified by the To Big To Fail model, but the rapid recovery was also a direct result of their size and scope and considerable bandwidth within the global economy. Dealing with only a handful of mega banks with very similar infrastructures is infinitely easier to navigate and dispense stopgap capital, then thousands of separate and smaller entities with disparate business models and means of capital conveyance. No doubt about it, it’s a house of cards in the right market conditions, but it also can be utilized to neatly reflate a deflationary market environment in a crisis.
With that said, there can be some rather large side effects of operating capital within such a dynamic system – even if they are just figments of the markets imagination (see below).
The Bubble that is Silver
Since I last checked in on the state of the precious metals market (a whopping three weeks ago – and 400 posts before Silver Bubble Mania hit the blogosphere), the silver bullet train has continued its ascent higher – in what I like to refer to as its quest for its ephemeral peak.
It’s not a matter of if, it’s a matter of… yada, yada, yada – you’ve heard it all before.
It is a very crowded topic to broach these days. Definitely a bit disconcerting from a contrarian perspective, if you are positioned on the opposing side of the plate. You may ask, why would anyone ever willingly step in front of a train such as silver?
(thick BBC english accent)
Purely Ego.
I’m smarter than the market; I’m smarter than you; therefore…(insert tragic personal anecdote here). It’s typically a widow maker towards your net worth. Trust me.
We all know, as so eloquently stated years back by the godfather of our modern fiscal debate, John Maynard Keynes, “that market’s can remain irrational longer than one can remain solvent.”.
Truer words have never been spoken.
With that said, there are a number of reasons – both fundamentally, technically and psychologically speaking that silver’s historic rise is running out of motivational propellant. The crescendo of central bank fedspeak (previously described here) towards quantitative easing exit strategies and inflation concerns has reached a dissonant pitch in the market. What’s the old market axiom, “Buy the rumor, sell the news”? Well the news flow has been absolutely tidal towards inflation expectations as of late.
Internationally, the drumbeat from China has been as steady as Ringo’s right foot in Come Together. They have raised rates twice since October, and just yesterday, their central bank governor declared they would continue to raise rates, “for some time”. Meanwhile, the ECB has eschewed Bernanke’s willingness to give the markets the benefit of the doubt and have followed rhetoric with action.
Domestically, the inflation debate has intensified, and although the governing powers that be have yet to align a concerted approach towards addressing inflation expectations – the wheels are in motion and proceeding along that path.
Two days ago, it was Fed Governor Plosser declaring his concern with “choreographing” an exit strategy towards quantitative easing. Moments before, it was Federal Reserve Bank of Richmond President Jeffrey Lacker stating his concerns with the, “need to heed the lesson of the last recovery that inflation is capable of rising even if the level of economic activity has not returned to its pre-recession trend.”.
First rhetoric then action.
Technically speaking, the silver market is as exuberant as the Nasdaq was in March of 2000.
I also like to look at the monthly charts as an apples to apples comparison of these two historic bubbles. For comparison, I bracketed both the Y2K hysteria trade in the Nasdaq and the current QE2 trade in silver.
The RSI, MACD, Full Stochastics and CCI have all exhibited very similar artifacts of manic market conditions. Namely, a slope as steep as the current monthly MACD for silver is almost always immediately followed by only one phenomenon.
Exhaustion.
Not a correction or consolidation of trend.
Exhaustion.
The Nasdaq had Y2K as its tragic muse. Silver, and by extension the entire commodity sector, has QE2. It’s ending in one month. Best look for a seat before the music stops.
Just remember, Y2K=QE2
16 Comments
Since I lived through Y2K I can say that most folks, but not me, had this entirely wrong. From 1998-99 the mantra was that the Microsoft OS was going to crash the day after New Years 2000. During the 10 years before most companies, like the one I worked for, had through no fault of its own, built up a whole complex jumble of computers. By 1999 it was high time to trash all that junk and start over — get things organized. The Y2K event was THE spark for junking the old stuff and getting everything upgraded. It was the first and likely last Great Upgrade. Everyone and every company did this! Nobody was actually afraid the computers would all crash during the Rose Bowl, but hey, why take the chance since we need new stuff anyway?
The profit numbers that came in during 1999 and for the first quarter of 2000 were astounding. However, during that very first quarter of 2000 nobody bought a thing! This continued for the next two years — why buy a new computer since this our new ones are working fine?
The Y2K and silver and QE have nothing at all to do with each other. The end of QE2 will be a non-event. The obsession with the national debt is ridiculous.
Silver and gold prices are at the mercy of supply and demand of puts and calls, not supply and demand of the product. QE1, 2 and 3 have more to do with the FED joining forces with the Treasury than anything else. Uncle Sam’s people sent most all their money to the Saudis and the Chinese for oil and toys, and they need some more. So what is the problem with Uncle Sam doing a little deficit spending and making up for the fact that American’s are out of moola? Instead of borrowing from the Chinese, just have the FED buy the Treasuries. Our government has the power to spend money into the economy for the benefit of all, so don’t obsess about it.
Who knows if it is a bubble. If it pops now it would have to be one of the most most under owned bubbles. I think it could absorb a few more yet …
Check your screen. The 1-year bills are priced at 0.21%. The 2-year at 0.65% and the five year at 2.0%. Did you know the Treasury has 1.7 Trillion borrowed at a cost less than 0.2%??
My friend that is very cheap money indeed. This is the result of the one/two combo of ZIRP and QE. This set of rates is the most manipulated bit of history in the world. It’s both unhealthy and (I’m sorry) a bit creepy.
When money is “free” strange things will happen, including bubbles. We have a long history to prove that point.
You like Ben and what he has done. Fair enough. I disagree. I think that QE2 was a very big mistake. I think the Fed has tried to let the party go on too long. I think there will be significant consequences to his actions.
QE made it easy for Treasury to issue cheap debt. So Treasury rose to the challenge and issued $2 trillion. You should not be surprised that the consequences are bubbles popping up in commodities markets around the globe. That is what your pal Ben wanted. If you had asked him two years ago if he would be happy to see the CPI ripping along at a 6% annual clip he would have said. “That would be the favored outcome”.
QE may well be ending in a few months, but ZIRP will be with us for a long while yet. Ben can’t get off the path of cheap money. We will pay a dear price as a result.
1) Y2K was a technology-driven bull market, associated with fear and cheap money from Japan pushed into the Nasdaq.
2) in order to push the economy higher, the FED manage a low rates policy and create a Real Estate driven bubble.
3) in order to recreate wealth again, the FED is pushing the debt to its ultimate limits. There is not a Silver bibble, nor
3) in order to recreate wealth again, the FED is pushing the debt to its ultimate limits. There is not a Silver bubble, nor a Gold bubble, nor a commodity bubble… There is just a “faith in the FED bubble”. According to US now (see comment #1), the FED will print their way to prosperity. Why working? innovating? putting capital at work? Forget about that. Europe has its flawed currency, China and Saudi will give their oil for having US paper… All this will end very badly.
I am not talking about austerity or MMT, but just money flow. If (when) the risk-averse trade is coming back, equity will sell-off, USD & TB will rally. And you are all once again calling about the perfect policy of the FED. Never forget that if USD and TB rally, it will just be a question of money flows (translate: no other place to go). Until this trend will change…
“Once critical mass arrives in the economy – bank lending will resume a glide path towards normalcy.”
Why is there always so much stress upon lending from everybody advocating fiat currencies? Most of the bubbles in economy happened or are happening due to lending. I believe this madness of lending or credit based economy should end.
Erik, please answer why silver, given it possesses every psychological, monetary and fundamental tailwind in the world behind its back, should stop short of its daily high over the past 30 years of $50? Moreover, given all of those tailwinds, why would it stop there given the asset lay dormant in a 20 year bear market before its recent decade long run?
The end of QE2 is very much priced in the market, imho.
I do agree that we are about to enter an exhaustion phase. One of many exhaustion phases because this silver bull does not seem to be ready to lay down and die. It will be when my relatives start asking me questions about silver as an investment vehicle. My next family gathering is at Easter. If I hear anybody mention silver at the dinner table, it will be my cue to start unwinding my position.
Couldn’t agree more. I’m not long but I’m ready to be short. Have the trades lined up, just waiting for a conversation similar to the one you are, or to see the commericals on Fox Business similar to the gold ones that have been running for years now, although then it might already be to late.
Maybe I’ll just watch for a Business Insider barrage of posts about it.
“With gold and silver today, it’s just as manic, evermore disturbingly romantic – and really just plain dark.”
I get the skepticism, and perhaps it’s somewhat justified, but I have to say that it is hardly contrarian. In fact, it is outrightly consensual to be ‘calling a bubble’ in the precious metals. So many people were completely embarassed by missing 2000 in TMT, 2006 in housing and 2008 in lots of things that the market is populated with avid ‘bubble-watchers’. Now, as I said, there is perhaps some truth to that (particularly for silver) – but it’s just not contrarian and hence doesn’t have that risk/reward asymmetry.
How do you short silver?
Bear Silver ETFs is one easy way. Otherwise, break out a book on options.
Is it a bubble? After the real bubbles that no one saw burst, now everyone is suddenly seeing bubbles everywhere. That is not a very contrarian thing to do in other words.
A couple of thoughts on precious metals.
1. for the moment, inlfation is not driving PM but rather negative real interest rates.
2. PM are still vastly underowned. They may become a bubble one day – as they did in 1980 – but there is little evidence we have a gold/silver mania on our hands today.
3. Though something like gold has no intrinsic value, it should be clear the marked has posited gold as just another fiat currency for about the last 6,000 years. After all, whether something is a currency or not is a matter of consensus. Now the attractiveness of gold is that it is the only fiat currency that is no one else’s liability. And given the opportunity cost of holding it is near historic lows (negative real rates), I would rather expect its exchange rate in terms of USD to continue rising over the years…
4. Last but not least, central banks are IMHO underestimating inflation as they are overestimating the world’s output gap.
An ounce of silver, historically (not the funny money expansion that we’ve lived through) was worth about 1/15 of what gold is worth and that was before the world came to realize how valuable it really is in modern technology not just spoons.
Silver in inflation adjusted dollars has a long long way to run to reach $50 in 1980 dollars. I’m holding until it hits at least $150 an ounce unless of course the dollar looses half it’s value by then, in which case I will wait till it hits $300. rock and roll baby
@ Silvershorder:
this is a flawed comparisson.
You compare times where the ratio of Silver demand vs Silver production was much higher than today!
+ you compare a commodity which once was needed heavily for making coins, with its modest industrial demand now and nothing else that gold is needed for either.
Silver was much more demanded in these times than today! I would g.a.s. to this assumption, cause its flawed, not up to date, its used for a selffulfilling prophecy!
You only want silver to have an absolute intrinsic value, what it has not, like gold has not either. Thats a pitfall most goldnuggets fall into.
Gold and silver cant be wealth like paper money cant be either.
But both pms and fiat money can be used to claim human labor.
I would prefer paper money cause the supply can grow with economic demand, pms cant do this and therefor force heavily deflational crisis over a short period of time , can be less than 40 years. Opur current monetary system has a lifecycle of about 80 years, so i will always prefere this before i accept a goldstandard again.
People just dont learn from history, they dont see that the Goldstandard brought us WW1+2….and they want it again!