"New Normal" is the "New Stupid"?

[FDAXHunter]

So, I've been watching with increasing concern as we seen these enormous waves of liquidity so generously provided by the central banks finally flood every single corner of the financial system. We're now at the point where everything is going up: Govies, Corporate Bonds, Equity, Gold, Copper, Oil, the Softs, almost every currency against the dollar. The liquidity is coming out of every orifice. We're witnessing totally indiscriminate buying almost everywhere even though this quarters macroeconomic numbers are not substantiating any of this.



As yields on relatively "safe" assets have dropped to zero thanks to QE, the money (of which there is plenty) is chasing any sort of yield pickup they can get. In essence, this has caused most of Planet Earth to construct the mother of all carry trades. (And the road to hell is paved with positive carry....).



This would, of course, be the first time in the history of man kind where we can create value out of thin air, so it's all going to end in tears at some stage, or so I reckon. Of course, it's a difficult trade to put on as I have absolutely no idea how high this liquidity tide is going to rise?



Now, I could be totally of the mark here, which is why I'm posting this as I'm very interested what people who have their hand on the macro pulse have to say about all this.

I've heard some macro guys prattle on about "textbook recovery" which I'm not sure from what textbook that's supposed to be coming from...

[Cheng]

We had this before in 2006. Remember when we kept talking about cheap/stupid money chasing every little grain of yield and plunging in all kinds of risky assets ? Imo this is the same phenomenon but on a much greater scale. I have no clue how long this wave will last, probably much longer than I would expect, but at some points it will break down. By then we will be in much deeper sheah than ever before.



2010 should be difficult for banks again when consumers and small to medium enterprises start to default. Most banks are not reasonably capitalized yet and rising defaults will eat up the precious capital. Either stock holders or governments have to step in and recap, probably the latter. The big question is how long the govie bond buyers are willing to fund this expansion.



You can't heal a bubble with an even bigger bubble, this won't work. And what we see now is the biggest bubble ever.

[sharpend]

I have a couple of thoughts:

QE and low interest rates. Banks are supposed to take this liquidity and make new loans. If they don't (why would they really) and instead invest capital --after boosting their tier 1 ratio-- in secondary markets then you have asset inflation. Any increase in the value of credit will through equilibrium drive other markets higher. Asset allocators will shift from credit to equities to whatever. So that is where the value out of thin air comes from--my theory.



Recovery. I have read there is still inventory to be replaced etc. But if you go to a site like www.stateline.org you will see that local governments are phucked. They are required to have balanced budgets. But even after they balanced this years budget (starting in July) they have already fallen behind by a decent amount. Tax revenues haven;t been rolling in. The have an estimated 100 Billion +- a lot more in deficits in the next couple of years. They will need to make cutbacks which are procyclical and will hurt they economy more.



So there will need to be another stimulus. 'stimulus' is a big lie anyway. at least 20% and probably a lot more isn't stimulus but stabilization. That is the funds are used for medicaid and education otherwise these would be cut back. They prevent things from getting worse. They don't stimulate. Anymore stimulus will be the same non stimulating stimulus. All this talk of shovel ready projects is garbage, it will go straight into medicare, food stamps, education employment stabilization.



Consumption. I haven't looked at today's numbers but it is strange that with credit less accessible that consumption is doing well. I predict that it will fall off a cliff at some point. My hunch is that people are just not adjusting appropriately. Of course, when the government says thing are getting better they are irresponsibly giving people the go ahead to spend. And incentive with cash for autos. There has been money put in peoples' in pockets through social security and tax breaks so that contributed and will contribute. This Xmas will be interesting.

Longer term you have the problem that baby boomers have not saved enough. see this and a bunch more articles using google. Longer term the baby boomers will have to work more which will make the job market more competitive and will will keep unemployment high.

China. Lots of debate. Has the stimulus gone into productive assets. A lot of people say no? If so then well I dunno.

Some of the commodity moves are legit. Some is a weak dollar I suppose.



Inflation doesn't happen unless banks actually loan money and unless people think the central banks will be irresponsible enough to allow inflation (rational expectations which is why Rogoff is advocating an explicit 6% inflation target). Everyone is betting on inflation. They are loaning money in China, but if it all goes into empty apartments then no inflation and pop goes the commodity bubble



I think this is all going to end badly. But every day the market screams "you are wrong and stupid. Drink the phucking koolaid and climb on board"

I am always bearish so I temper my conviction with self knowledge and acceptance that the market will do what it does until it is hit with a 2x4 of bad news.



I also think that there also new risks like homegrown terrorism similar to Oklahoma '95.

[Martinghoul]

I think there's some pain coming next year, personally... It is a square root-shaped world and I expect that we might see the Fed's hand forced some time next year (I'm watching 5y 5y fwd TIPS bei like a hawk). When/if they slam on the brakes, the music will stop and it will be like the final scene out of Carrie. At the moment, though there's no arguing with the avalanche of cash.



There's been so much written about it, though, and so much discussion...



I am not entirely sure what types of specific thoughts you're looking for, FDAX.

[Cheng]

Martinghoul,



are you also looking at Treasury auctions ? Those are my favorite at the moment. If the market is not willing to absorb these huge amounts of debt anymore the whole "stimulus" thingy will collapse like a card house. Interesting enough that Geitner could print 15bn of 30ys lately.



Inflation, I don't know. What I would expect is some kind of deflation on the consumer side. People don't/can't spend as much money as before, therefore prices for consumer goods and services won't rise. However, prices for commodities and maybe also wages rise, therefore putting preasure on profit margins. This will squeeze the industry, leading to layoffs, which implies less people spend less money and so forth.



Re China. Probably a pile of money went into speculation but as long as "only" bubbles are pumped up no inflation is created. The challenge is to increase domestic spending. Right now people hoard money because they need it, eg for health services. This money won't be spend, so exports need to make up for this. But if our friends on the other side of the Atlantic stop their buying frenzy there is no sink for those goods anymore. This could be solved by introducing some kind of basic health insurance system but this should take rather decades than years given the huge population.

[Tradenator]

Roubini's related article.

[FDAXHunter]

Martinghoul,



I'm not looking for any kind of specific thought, I'm just trying to do a reality check and make sure that I'm not missing anything or am not completely hallucinating.



The avalanche of cash seems indeed unstoppable, but you can't get on that one either (I'm not going to get on a train clearly heading into the Great Salt Waste).

[Path Integral]

FOA I am not an macro guy. Anyway my 0.02€.

I've been wondering about what FDAX said for a while now. Notheng very substantial. I have become more and more of a Krugmanite. I don't pay attention to his political ideas but there's a lot of thought provoking stuff in his economic ideas. This got me thinking that in the best case we're going to have years of 90's Japan-like "economic recovery". The thing with QE is when and how to stop. When is Helicopter Ben going to be responsible again? How irresponsible is irresponsible enough? Japan has thaught us that retracting QE too soon is a bad idea, but how long can you let inflation rise before it blows up in your face? Also being in ZIRP-territory doesn't leave you with a lot of conventional tools.

IMO the recovery hasn't started yet, we're still on the way down. Sure there seems to be a sustained rally, but I haven't seen unequivocal economic data supporting such a rally. Dead cats do bounce. If at the local butcher's people're saying the crisis is over and recovery has started b/c the stock market's up and newspapers say so, it isn't over yet. The fat lady hasn't sung yet. It's only now that govt deficits start getting out of hand, fiscal income is worse than estimated, costs for an ageing population are rising.

[Tradenator]

Correlations between commodities (a set of about two dozen) generally declined between the end of 2008 (when everyone was selling everything but gold as quickly as possible) and a few months ago.  While I haven't updated the numbers recently, you can still see something in the way the ags have not followed the energies and metals as strongly.  If the declining USD was the only driver, I would expect more expensive ags right now.  So it seems to me that people are chasing the better trending markets rather than only selling USD here.  At some point I think the ags will need to catch up, and food will become more expensive.  Perhaps that will be a signal for a wave of inflation?  Dunno, but I'm watching.



Edit: I hope that at least my two cents are consistent with the thread title. Confused



Edit2: Nope, I ran the numbers and the correlations have risen again recently.  D'oh!

[baghead]

I noticed a lot of balance sheet improvement at German midcaps recently. The classic line of argument seems to hold true. Liquidity provided causes asset price inflation, inflated asset prices make new issuance attractive, first corporate bonds to ease liquidity squeeze followed by capital increases to strengthen balance sheets.

The next logical step would be a sector consolidation/ M&A frenzy driven by companies that capitalise quickly and drive expansion through acquisition.



Don't get me wrong, this is not "this time it's different" but a simplified reflexive development a la Soros during which markets influence fundamentals can't be denied. The only question remains whether this effect is being dwarfed by bigger macro trends like consumption or a flight from treasuries.