Weekly Fed Balance Sheet Update & Thoughts on Shorter-term Movements.
An update of the weekly Federal Reserve balance sheet charts for 9/7/11. As the latest quantitative easing program was completed on June 30th, this will be the last week where the numbers coming from the Board of Governors of the Federal Reserve System reflect it. [The latest data point reflects the changes from 29th June to 6th July.]
[The first chart shows the Federal Reserve's assets as recorded on the 'factors affecting reserve balances' statistical release. The second chart shows those assets on a proportional basis. That is, the latter chart shows the Fed's various assets as a percentage of its total assets.]
The Long-Term Perspective:
As we have maintained for some time, the ‘QE2′ program had the effects of both diluting the dollar, and of improving it qualitatitvely. As discussed in a previous update, the long-term interpretation of the above charts remains bearish:
… the Fed drastically changed the structure of its balance sheet during 2008/2009. In essence, they made dollars ‘good for’ MBSs as well as conventional central banking assets (gold, government bonds, etc.). QE2 seems to be reversing that change; the dollar is - once again – becoming ‘good for’ (mostly) conventional central banking assets again.
I say that this is bearish for asset prices. Pre-2009, supposedly important institutions owned too many MBSs and owed too many dollars. To alleviate this, the Fed changed the quality of the dollar – they made dollars ‘good for’ MBSs. Thus, insitutions that were previously close to insolvency found that the burden of their dollar liabilities had lightened considerably. Similarly, everyone else – who owned stuff better than MBSs – found that they were safe again. Now, it would seem, the dollar is changing back to something similar to its former self. If imbalances still remain in the system, then can we really expect those insitutions to thrive or – even – survive?
Irony in Short-Term Market Movements:
The short-term movements in the so-called ‘risk assets’ seem to have been rather foxing for the average speculator. The end of QE2 had been widely discussed and — indeed — feared, so a rapid post-QE2 plunge was on the minds of many financial commentators and speculators. However, in the usual ironic fashion, the opposite has occurred. The market corrected steeply prior to the end of QE2 and has climbed higher just as soon as a huge chunk of ‘small traders’ gave up their longs (see chart below):
The small traders seem to have been thinking ‘Oh, the Fed’s money printing program will keep everything up!’, and so — inescapably — they had to eventually conclude that ‘Oh @&*% they’ve stopped! Dump stocks quickly!‘. Although we believe that the long-term outlook for stocks is poor (at least compared to gold), we certainly do not believe in such consensual mechanisms! So, as can be seen from our sample newsletter, the market has corroborated our best guess till yet (scroll down to the ‘Short term sentiment’ section).
Recommended: Charting the Federal Reserve's Assets - 1915 to 2012