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Means and Motive of Speculation


The key analysis remains squarely liquidity and psychology.


John Succo from today's Buzz, 8:35 am:

The XAU is not keeping up with gold prices, and gold is increasingly looking like it wants to break out on the upside.

Scott and I have been wondering if central banks would do the right thing and take their foot off the liquidity pedal and finally ween the world off of free money, or would they take the politically easy way out and do the wrong thing in the long run and hyper-inflate.

The jury is still out, but watching gold, other commodities (copper is at an all-time high, aluminum 15 year highs, lead is at all-time highs by far), and the Russell 2000, it seems increasingly likely that the Fed and their partners in Asia will just keep on printing.

This is not a recommendation to buy stocks or gold or gold stocks for this is a very dangerous "trade." The liquidity bubble could (and eventually will) be burst by a reduction in risk by the "market" itself despite central bank intervention/manipulation.

The only thing of value that I see is volatility. Right now no one else wants it as the market continues to relentlessly sell options. It has been a relatively painful month for us as we have been a net buyer of volatility, but we are big boys. I have been doing this long enough to know that when buying value it requires losing money before making it. If I am wrong in the long run so be it: I know what I can lose and the risk is acceptable.

Position in gold

When John says that he and I (and the rest of the firm) have been wondering about central banks' liquidity actions here, he is being political. It, I believe, is THE question to be asking as it is the foundation for both the means and (partially) the motive for the financial speculation we have seen lo these many quarters.

And indeed that is what it is: speculation. What is to account for the fact that commodities with active and liquid futures markets are up significantly more than those without? How to explain the significant performance of delta between the 'financial economy' - industries whose growth rests squarely on cheap and available credit, and those that don't? We have talked ceaselessly about that dichotomy in the past and most recently lamented the effects of such liquidity policies by citing statistics showing the gap between the haves and the have-nots in terms of wages, salaries, asset appreciation, employment, and incomes.

Thus, at a time when credit demand is waning (tighter lending standards by commercial banks and net negative credit demand from consumers last quarter), we see near frenzy in the liquidity- (and psychology-) soaked financial markets where the trades du jour remain risk seeking (small caps, commodities, brokers) in the sectors that have had the longest and strongest bullish trends in place. Recall that there are two entities that can legally create money: the Fed and commercial banks. They remain the fountain of youth for the credit boom. If indeed commercial banks are tightening and consumers' demand is waning (and the Money AMS figures strongly suggest they are), the only source left for the means and motive of speculation is the fed itself: via repos, via bond purchases, etc. And perhaps - perhaps - even via outright purchases of risky (liquid) assets; direct or through intermediaries.

John concludes, rightly in my opinion, that such a process has natural limits, which is a nice way of saying: "is doomed to fail spectacularly". But the timeline involved IF the Fed is the only liquidity lever left (which the data strongly suggests it is) would become more uncertain should the Fed be acting to specifically target (and possibly purchase) the asset markets. With M3 gone and the tipping point much closer now than it was even several months ago, it may be obvious in hindsight why Senators Schumer and Graham decided to pull their bluff on the Chinese tariffs, as that action would undoubtedly make the liquidity situation - the recycling of USD's back into the 'financial economy' - that much more dire. Perhaps Mr Bernanke paid them a visit.

In any case, the key analysis remains squarely liquidity and psychology: means and motive. With the motive waning and credit demand shrinking real liquidity, the negative impact to means is clear. What likely stands in the way of means going the way of other such interventionist attempts is just what the Fed is doing now, irrespective of what the public sees at the ceremonial FOMC fed funds rate meetings.

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