December 18, 2015
A long time ago, in a galaxy far, far, away…well, actually, it was here on earth in the late sixties, there was an iconic comedy program on American TV called ‘Rowan and Martin’s Laugh-In’. One of the zany characters in it, in those delightfully pre-politically-correct days, was an absurdly-exaggerated German officer of WWII vintage, who would occasionally pop up from nowhere and say, in an absurdly-exaggerated CHERMANN accent, mimicking the stereotype Hollywood Gestapo interrogator: “Verry in-ter-est-ing…….but stupid!!”
I doubt if any such character was present in the Mariner S. Eccles Building – the seat of the Federal Reserve Bank and surely unconnected with another zany comedy character, Eccles of the 1950s Goon Show — when the Fed’s Open Market Committee voted unanimously to raise the American central bank’s interest rates for the first time in a decade. Nor did any of the media people attending Fed Chair Janet Yellen’s post-meeting press conference attempt to abruptly terminate their careers by suggesting that what she and her colleagues had done was very interesting, but stupid. Nevertheless, that is what many analysts wrote, not in those words but rather encrusted in suitably long-winded, convoluted and jargon-filled commentaries, in the hours following the long-awaited announcement.
Most ordinary citizens are confused about the intense debate raging all year as to whether, when and at what speed the Fed should begin raising interest rates from the ‘zero-bound’ where they have been for the last seven years. They must be even more confused now, seeing the stock market’s response to the announcement: after a highly volatile immediate reaction, the American markets jumped strongly on Wednesday afternoon – apparently signaling approval, or at least lack of concern. However, after Asian and European markets had followed the American example in their Thursday trading, the American markets promptly plunged when their turn came round again. The only consistent feature in the 24 hours of trading following the Fed move was that the dollar was strong – which at least makes sense, to experts and laymen alike.
In practice, it is best to ignore the short-term gyrations of the market, especially when they are as vulnerable to manipulation by algo-driven computerised-trading systems, as the financial markets are today. If attention is to be paid to the market as at all, it can only be on the basis of their movements over weeks and months, not minutes and hours.
On that basis, there are some clear – and very disturbing—features to note. First and foremost is the ongoing massacre on the junk bond market, of which I wrote here last month and which is getting steadily worse. The rot is spreading from its original epicenter in the energy patch, to encompass other sectors and issuers and is also creeping up the value chain, from the triple-C junk stuff toward the supposedly stable investment grade bonds.
The other strong trend is the rot at work within the equity markets. Whereas the narrow indices, such as the Dow Jones Industrials and S&P 500, are still close to their all-time highs and could even, with a traditional year-end rally, climb to new highs, the wider market is very weak. The broader indices, such as the Russell 2000 and 3000 are far from the levels they reached earlier this year and most of the shares in them are in, or approaching, ‘bear markets’ by dint of being down by 20% or more from their highpoints.
That’s just the markets which, after all, are being buoyed by the endless flow of virtually free money provided by the Fed and other leading central banks. But in the real world, where companies have to sell products and services and make a profit, things are getting very tough. Even the carefully-doctored and deliberately-distorted data provided by exchange-traded companies in their financial statements reflect the growing strain. More and more companies, even in the la-la-land of high-tech, but especially in the old economy, are struggling to increase their ‘top lines’ (sales) and are having to resort to ever-greater financial legerdemain to generate rises in their bottom lines (profits).
Despite the best efforts of central bankers, who have poured many trillions of dollars into the global economy over the past seven years, not only has there been no hyper-inflation (as many mainstream economists feared), there is virtually no inflation of any sort in developed economies. That is why the policies of ZIRP (zero interest rates) and now, in most of Europe, NIRP (negative…) have been adopted and have been able to continue. Yet all to no avail.
The end of the China story – now being revealed as having been systematically exaggerated by bureaucrats eager to please their masters – has massively increased the excess supply of almost all commodities and raw materials and of most manufactured goods. China is now big enough to drag down the rest of the world on its own – but the rest of the world is on bad shape anyway.
Is this, then, the right time to raise interest rates and thereby remove some of the liquidity that has been covering up the horrendous fact that the problems revealed in 2007-09 have not been repaired, but rather aggravated? The answer, fairly obviously, is no – but that has been the argument of the Fed’s critics all along. When riding the tiger, there is never a good time to get off.