Messing with the Markets
Posted on: March 26, 2009 - Email Article - Printable Version
Jean-Claude Trichet, President of the European Central Bank, announced Monday that Europe does not intend to further spending in an effort to offset Europe’s continued fiscal deterioration. Instead, he proposed that governments will work on implementing the plans already announced. This comment stemmed from European concern following the U.S. announcement Sunday evening of further stimulus measures. Trichet’s comments seem enlightened, looking at the U.K.’s first failed auction in seven years as an example. A clear sign has been sent by the investment community that they understand the risks associated with leveraging up the central bank’s balance sheet.
Upon the U.S. announcement of the Quantitative Easing program, the Treasury market rallied hard. However, the curve has given up almost half that since the announcement. Clearly the rally in equities has something to do with this sell off. However, on Monday and Wednesday when the stock market retreated, the sell off in the Treasury market continued. In fact, Wednesday was the first active day of the program: the Treasury market continued to fall. This is not what is supposed to happen. There is grudge match in the Treasury market between deteriorating economics and the flood of supply. The market’s response yesterday demonstrated that funding for the U.S. stimuli is not limitless. Trichet’s hawkish comments demonstrate his understanding of this problem, especially with the Eurozone being less of a bid to quality than the U.S. Likewise, the Chinese concern/anger over U.S. leverage at the expense of foreigners is clear in Zhou’s proposal for a universal currency.
Public/Private Investment Fund
The Treasury announced Monday its intention to move forward with public/private investment funds to purchase mortgage-backed and other securities. The market was clearly encouraged by the clarity given to the program. However, it is important to realize much of this rally is still based on expectations (with no execution) of efficiency. Trichet’s comments lend to the notion that the stimulus measures’ effectiveness will not be clear until they are well underway.
The public/private investment fund centers on the idea of fair price discovery (by private investors). Yet it seems hazy what the “qualitative or quantitative difference” is between the government overpaying banks for their assets and “making (gov’t sponsored) below market loans to hedge funds for the same assets.” As an aside, it has been telling to see Washington’s Wall Street criticism ease over the past several weeks. The Obama administration desperately needs the real money sector on their side to carry out the stimulus initiatives while remaining in good standing with main street; not an easy feat for any president.
Bid/Ask spreads
One of the most interesting outcomes of the government intervention has been the struggle for price discovery. The typical market ups and downs (from economic indicators) have been overshadowed by jumps on political/fiscal initiatives. I realize that these are extraordinary times, but the Sunday evening announcements we have grown accustomed to do not make for a friendly investing environment. The credit markets have adjusted to this uncertainty through enlarged bid/ask spreads.
The House voted last week, 328-93, for a bill that would force a 90% surtax on bonuses given to employees with household incomes of $250,000 or more at companies that have received at least $5 billion from the government’s fiscal stimulus. The tax would be retroactive to Dec. 31, 2008. Retroactive taxation is wrong. If you write a $173 billion check to AIG you can guarantee they are going to compensate themselves. The problem was in the inconsistent handling of the AIG situation and the lack of regulation in the first place.
Moving Forward
The Federal Reserve and Treasury made a joint statement Monday that would further Geithner’s push for a financial ’superregulator.’ The superregulator concept raising an interesting issue. Clearly too big to fail is too big (inhibiting natural capitalistic failures as the gov’t is forced to step in). Yet restricting these companies’ growth is difficult to rationalize in a capitalistic system. Interestingly, contained within the statement was a proposal for the Treasury to inherit some of the Fed’s risky assets (including the Maiden Lane facilities). This would effectively move the risk from the Fed’s balance sheet to the Treasury’s (taxpayers).
Ultimately a sustainable market rally will be contingent upon the success of the fiscal stimulus. Be aware success brings up a whole other set of issues. I can hear the outcry now as the politicians/public seeks to claw back the profits the hedge funds make from these investments. Better that than the alternative…
-Adam Brown
Disclosure: None
Comments
No comments yet.