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Critters in a Crossfire

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That's a pretty scary picture...even by my standards!

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Save the strong lose the weak
Never turning the other cheek
Trust nobody don't be no fool
Whatever happened to the Golden Rule?


(Stevie Ray Vaughn)



Good morning and welcome to Elmer's zoo. Like a brave student returning to school after being on the wrong end of a beat down, our fearless Fed chief takes center stage today to debate rates. While his physical bruises have somewhat faded, the emotional scars of his last encounter will surely linger as he limps gingerly to the podium. The master statesman has always relied on his deity status to jawbone rates to levels of his liking but something odd occurred the last time he faced his accusers--they called his bluff. Now, with investors demanding that our bespectacled bureaucrat walks the walk alongside his talky talk, all eyes are on Elmer as he stretches his legs.

Hoofy will opine that everything's fine and a rate backup is a natural function of an economic resurgence. Boo, meanwhile, is certain that our Federal Reserve is trying to buy time with hopes that the phantom recovery unfolds. Therein lies the crux of our dilemma and with it, the fortunes of the global community. Yes, rates are lingering near historical lows and this conversation must be kept in context. But if the perception of a new trend emerges, the prospect of higher rates could crimp what is, by all anecdotal evidence, a very fragile economy.

While the cat and mouse rate debate rages, a subtle yet more disturbing issue lurks in dark corners. Elmer has maintained a squeaky clean reputation during his tenure which is no small feat considering the equity roller coaster we've endured. He always seemed to have a knack of saying what needed to be said and, with the notable exception of a mistimed yet accurate "irrational exuberance" remark, he's stayed in the good graces of the investing public. Throughout the first half of this year, his golden touch continued as he seemingly willed rates to 50 year lows and flushed the economy with much needed liquidity. He was the golden boy and as the screens were green, few questions were asked.

As we know, humility on Wall Street is a lesson that we all eventually learn and the higher the perch, the longer the fall. In late June, when he painted the picture of perpetually low rates, the Minx decided to show this man of will what will really was. As prices swooned and rates boomed, refi-mania took a much needed respite. Now, Elmer (and, by extension, you and I) find ourselves in quite the pickle. If the economy does begin to significantly recover--a scenario I don't see happening--rates will rise further and create a self-imposing choke hold on consumers. If the state of rates start to waffle, the likelihood is that it's a by product of weakening business prospects and an absence of end demand.

Both of these potential scenarios exist against a backdrop of massive debt and a crazy maze of derivatives. When the housing market finally caves in (which, in my humble opinion, is simply a matter of time), the final shoe will kick the remaining leg out from under the table. It's not a pretty picture and I sincerely hope it never comes to fruition. If we've learned anything, however, it's that hope isn't a viable investment vehicle. I don't have the answers--I'm not sure they even exist--but Pandora's box will eventually open. When it does, the only thing that will be clear is that talk is cheap.

Good luck today.
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