Why The Disconnect Between Stocks and the Economy?

In a recent article by CNBC, the author explains why stocks continue to climb higher, even though we remain stuck in the Great Recession. The attempt to “demystify” the disconnect between stocks and the economy provides just enough truth to give readers the impression that the rise is inevitable, so long as the Fed stays involved. Not only did they use false positives, but the article fails to even mention the reasons for the bigger flows of capital into the market, nor does it answer the big question – weren’t the Fed’s policies supposed to improve the economy? An even more fundamental question is, does it even matter what the reasons are for the disconnect? The disconnect that the author acknowledged will all be resolved soon enough.
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There’s no need to discuss the failure of the Fed’s policy to improve the economy because it’s not even debatable anymore. The question should be, why are they continuing to print when the consequences are clearly greater than any benefit? The answer is simple if you understand the Fed is not part of the government, as they want people to believe. The Fed’s policies have never been about improving the economy, unless if it happened to be the byproduct of their primary objective – saving the banks that they represent. The Fed is a private entity owned by the money-center banks. So, it should not surprise anyone that their first priority is to the big banks.

The three factors mentioned in the article to explain the rise of stocks was pension fund buying, stock buybacks, and “relief” that it’s not the business cycle causing the economic “swoon”, but fiscal policy. Let’s look at these items briefly before moving on to the big reasons the market is rising.

The first reason the article gives for the rise in stocks is that due to the Fed artificially suppressing interest rates, pension funds are forced into buying riskier stocks to counter the loss of interest income caused by the Fed’s zero interest rate policy (ZIRP). If that alone is not crazy enough, consider that pension funds are also considered dumb money. Who do you think the big banks were selling much of their securitized crap to, like subprime mortgages? Forgetting that pension funds should have a fiduciary duty to be conservative in their investment policy, if pension funds are being forced to buy stocks, junk bonds, and use exotic methods and leverage to boost returns, I can assure you a top is forming that will not end well for pensioners. I believe that pension funds and retirement accounts that are beyond the physical ownership of the beneficiary will be forced to buy treasuries in exchange for significantly damaged portfolios.

Selling bonds to buy back stock was another reason given for the rising market. This trade is the opposite side of the pension trade, so someone is wrong. Another factor to ponder is why are insiders selling so aggressively when the company is buying back its stock? I guess the insiders needed someone to sell their stock to. Also, for a company to use its cash for buybacks is an acknowledgement that it doesn’t have a better use for it. Normally, a company raises cash to expand its business. It may not be bad for companies to buy back their stock, but it is a drop in the bucket compared to all the capital flows sloshing around the globe. It also does not mean it’s necessarily good for the other stock holders if they don’t have physical possession of their shares. Most people buy stocks from their broker in “street name”, which places a clearing company and other counter-parties between the investor and their company ownership. Unless you own the shares in “your name”, you own nothing but a line item on your statement, which will be exploited during the coming sovereign debt crisis and will be very painful lesson for those that trust the banking system.

Finally, the belief that fiscal mismanagement is a good reason to be buying stocks is completely insane. The fact that the U.S. is the healthiest horse in the glue factory should not be very comforting to job seekers or investors. Instead of using the last five years to fix the problems, we’ve only made them worse and rewarded the big banks for their fraud. How can that be adding to investor confidence?

The reason there is such a huge disconnect between stocks and the economy is the exogenous factors boosting stocks have little to do with fixing the fundamentals of the poor economy. Below are the biggest factors boosting the stock market. They have a minimal effect on job creation and wage growth.

First, let’s start with the one factor the article does mention, the Fed’s money printing policy. Most have at least heard of Quantitative Easing (QE), the intentionally arcane expression for buying bonds from the money-center (big) banks, which is how the Fed hands the money to the banks to supposedly lend. We would be much better off if the Fed literally printed the money and handed it out, but that would bypass the banks they are sworn to protect by charter. The purpose of QE is to fill the voids on bank balance sheets caused by deleveraging and worthless collateral, including derivatives. We now know that instead of lending, the banks have been investing/speculating with these levered funds. If one doubts the impact of QE on stocks, all one needs to do is overlay the Feds’ policies with the performance of the stock market. In a nutshell, when the Fed is buying from the banks, whether it be treasuries or mortgages, stocks go up. When they are not buying from the banks, meaning the banks don’t have free money to speculate, stocks go down. The appearance of the Fed controlling markets can only exist in a thinly traded market. If the herd of hedge funds and sovereign wealth funds turns, the fund is defenseless – remember 2008.

The biggest source of funds going into stocks and real estate is due to capital flight from Europe (due to bail-in fears and sovereign debt risks), Japan (retirees looking for yield), and countries like Argentina that are having their currencies severely devalued. The U.S. is still the only market that can absorb this level of capital flight. BTW, this is the same thing that led to the great Depression. Capital flight out of Europe due to WWI created the roaring 20’s bubble that eventually popped in 1929.

Investors in overly indebted countries, whose governments are artificially suppressing interest rates to prevent their debt service from overwhelming their budgets, are desperate for yield and are buying dividend paying stocks. Of course, there’s greater risk for this reward, but who cares – the Feds supposedly has their back (until they don’t). The Fed’s policies are intentionally trying to force investors into riskier investments. This is what one might call fattening up the sheeple for the slaughter. Since there are many skeptical skinny sheep still out there, there’s still room and time for the market to rally. The feed for these leery sheep could very well come from the dollar short covering that’s coming when the dollar spikes higher as a result of higher interest rates and the sovereign debt crisis in Europe, which should reveal itself by the German elections on September 22nd.

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In summary, stocks are a store of value (if you have physical ownership of your shares). Companies own plants, property, equipment, and intelligence, which can represent intrinsic value if those assets retain their value. Since fiat currencies are being recognized for their intrinsic value, which is nothing more than the paper they are not printed on, anything with tangible value has greater appeal. Remember, tech stocks, real estate, tulips, and the South Sea Trading Company, also had intrinsic value that separated from their stock prices.

All bubbles eventually pop, and usually overshoots their mean value to the downside as fear replaces greed. These large losses in the future, I believe, will be the transition for forced (swapped) buying of long-term treasuries to offset the lack of purchases by the rest of the world. This will be the backdoor way of getting at the large pool of retirement assets, while bail-ins will be the front door method for getting at bank deposits. These stockpiles of real capital are needed by the banks to replace their mythical capital that is based on leverage of worthless securities that FASB has allowed them to mark-to-myth instead of their true value.

At some point when investors least expect it, they will discover that not only did Bernanke have no clothes, he was also a eunuch.

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