03/18/09   Fed Begins to Monetize debt

Editor’s Corner

Fed Begins to Monetize Debt

Ron Rowland

The bear-market rally in stocks is not dead just yet, though we are not optimistic about the outcome.  Depending how you count them, the S&P 500 has staged 5-7 mini-rallies since last July.  Four of them were strong enough to push the index above its 50-day moving average, but none of them altered the longer-term negative direction.  This key indicator is widely followed as a sign of the market’s intermediate-term trend.  Today closed with the index very close to making another cross of the 50-day moving average, but it hasn’t happened yet.  More ominously, the S&P 500 is now sitting right below its January low point, a support level that is now serving as resistance.  The long-term uptrend, as exemplified in the 200-day moving average, is still another 30% above current levels.
Meanwhile, the Nasdaq 100 index (basis for the QQQQ ETF) is in much better shape, relatively speaking, perhaps because it is conveniently designed to exclude financial companies.  Even so, the Nasdaq 100 and QQQQ charts are hardly a picture of health.  The recent strong advance simply brought them back up to the middle of a five-month trading range.  One bright spot is that the November lows have held so far and November/March looks like a double bottom.
Today’s FOMC meeting, to no great surprise, ended with short-term interest rates unchanged at near-zero.  The real news was the Fed’s announcement it will buy $300 billion in long-term Treasury securities over the next six months, along with $850 billion in agency and other government-sponsored paper.  Where will the Fed get the money to do this, you might ask.  Answer: they will create it out of thin air.  It is called “monetizing the debt” and is a sign that the Treasury cannot find other parties to finance the massive spending which is now underway.  Market reaction was a little strange.  Treasury yields dropped sharply, which makes sense.  The dollar cratered, which makes sense.  Gold rose, which makes sense, except it did not rise near as much as such a momentous event would seem to demand.  By the end of the day, gold bullion was back to its highest point in two weeks.  Stocks, which had struggled early in the day, rose after the Fed announcement but, as noted above, could not break above important resistance points.
Today’s bond rally indicates that Ben Bernanke still has at least a little influence over long-term interest rates.  As we noted last week, the 3% area in the 10-Year Treasury looks more and more like a line in the sand.  Rates are now well below the line.  Will they stay there?  Probably so, for now, but such low rates are radically inconsistent with an openly inflationary policy stance by the Fed.  Sooner or later something has to give.  At this point, we are unsure what it will be. 
While the current rally is broad and has helped all sectors, one glance at our Edge charts reveals that things are still quite negative overall.  The negative momentum in Financials, for instance, was cut in half since last week – but by any other measure is still highly bearish at -95.  Technology and Telecom are still the best sectors even though both remain in downtrends.  Financials and Industrials are still in the basement compared to all other sectors.
As in sectors, the Style rankings show substantial improvement in the last week but not enough to turn any category green again.  The relative position of all the categories is unchanged.  Growth continues to be preferred over value, and Large Cap is preferred over Small Cap. 
The Global momentum rankings are mostly unchanged.  Japan lost a little bit of relative strength, sliding to 8th place in our chart from 5th place last week.  China is fractionally positive from an intermediate-term trend view, but this has happened a couple of times in recent months.  We believe this is more indicative of extreme volatility in that market than any significant trend change.


The charts above depict both the relative strength and absolute strength of various market sectors, styles, and geographic locations on an intermediate-term basis. Each grouping is sorted (top to bottom) by relative strength. The magnitude of the displayed RSM value is a measure of absolute strength, which is our proprietary method of measuring and reporting the intermediate-term strength as an annualized value.

“One might as well try to perform brain surgery with a sledgehammer.

Ben Bernanke


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