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“A lie has speed, but the truth has endurance.”

-Josh Billings

When someone spins you a yarn, they are trying to deceive you by lying.  While it is strong language to use, it is increasingly obvious to Americans that Washington is spinning yarns in the run up to November mid-term elections almost as frantically as the Fed is printing dollars. 

The seeds are sown by the “Fiat Fools” and other political leaders in Washington for this country to be in for some bad times ahead.  The question is when, not if.

Ben Bernanke might be able to plug a temporary hole in the dam, but he will only be making things worse for the longer term.  The definition of quantitative easing says it all: ‘A central bank does this by first crediting its own account with money it has created “ex nihilo” (out of nothing)’.  Creating something out of nothing – that’s a good policy! You can’t make this stuff up… 

As Keith said in our MACRO call for clients last week, “Pleading for another round of quantitative easing is like the Romans pleading for Caesar to go into his final Senatorial meeting.”  Needless to say that ended badly for Caesar and it’s going to end badly for the USA too.  The death of the Fiat Republic!   

Ahead of the FOMC meeting today, the VIX rose 1.8% yesterday and volume on the NYSE was anemic and declined 16.5% day-over-day.  The 0.5% move in the S&P was the sign of pleading for Chairman Bernanke to come to the rescue.   The FOMC plans to release a statement at 2:15 p.m. today and, in my view, it’s unlikely that Chairman Bernanke will be able to string together the right words to satisfy the market. 

On July 21st he said, “the central bank wasn’t ready to take any action in the near term.” Although, at the same time, his assessment that the “economic outlook remains unusually uncertain.”  The lack of conviction in this market suggests that investors are looking for more clarity from the FOMC today.  KKR backing away from its planned $500 million U.S. offering is just one example of the anxiety evident in the marketplace.

The two key areas we are focused on are housing and employment.  Neither area is showing improvement.  The politicians can spin last week’s labor market report to fit the narrative, but as suggested by the deterioration and downward revisions in the data, the recent economic “recovery” has all but evaporated.

The strategy of increasing the supply of money in an economy when short-term interest rates are near zero is not going to fix the housing or the employment picture. The only benefit from another round of quantitative easing is to provide the banks with even more excess reserves with which they can buy the treasuries that the Chinese are selling.  Coupled with the fact that the Chinese would rather buy Yen than dollars, the current situation is a real problem for the USA.

The global markets’ response to the policies of the Fiat “Wizards of Washington” is a move away from the dollar, which increases the risk for inflation (not deflation) in terms of consumer prices.  A segment on today’s “morning edition” program on NPR with the economics editor of The Wall Street Journal focused on the Fed “watching for signs of deflation”.  I bet they are looking very hard.  We’ve said it time and again: the calculation used for government data for inflation is compromised and does not give an accurate reflection of the reality consumers are facing.  Prices at the pump and at the grocery store are reflecting that.  The forty-one million Americans receiving support from the Supplemental Nutrition Assistance Program (food stamps) are aware of that reality too.

On the inflation front, the market will get a small whiff of things to come on Friday.  There is a very good chance that the July CPI could surprise to the upside versus consensus expectations.   Although gasoline prices were flat month-to-month for July (according to the Department of Energy), a swing in seasonal factors will take gasoline prices higher, which will make the CPI number look inflationary.  Complicating the storytelling on Friday is oil trading at $80 and prices at the pump approaching $3.00.  Numbers don’t lie; politicians do.   

Turning to some important global macro data, yesterday copper traded down 2.1% and could not hold the critical intermediate trade line of 3.32.  Stocks in China fell 2.9% last night; the most in six weeks after data released in China showed real estate sales falling, while prices are rising less than expected. 

Taken together with the sluggish import data, a deepening in the slowdown in China’s economy is a real possibility.  China and copper have been leading indicators for growth globally over the last 18 months and U.S. markets will feel the effects of these moves.

The immediate term TRADE lines of support and resistance for the S&P 500 are 1113 and 1138.

Function in disaster; finish in style,

Howard Penney

Spinning a Yarn - hpel