Saturday, March 27, 2010

The New Bubble: Feds May Need a Stock Crash to Keep Deficit Spending Affordable

We are moving into government bailout bubble territory in the U. S. The state of California had to (could) increase the size of its bond offering. What's up with that? The Feds are helping.

A potentially vast new FHA rejiggering of mortgages to help bail out borrowers and lenders alike with taxpayer funds has just been announced. The money is said to be coming from some prior bailout funds.

The surprising thing is that with the flood of issuance, the 10-year is not back above its peak of last year in yield. Certainly sentiment on the Treasury bond is as bad as can be imagined. Meanwhile "liquidity" is running wild. The "smart money" "knows" that the party will continue until the Fed tightens, thus stocks and junk bonds are buys.

When I look at my Value Line charts, I can find almost no stocks below their "value lines". Some such as Oracle and Mickey D are at their lines, but one is left with TJX and DLTR, Chubb and Everest Re (insurers highlighted by Barron's today), and scattered others. Mostly the chart patterns look long-term weak, short term overbought. You never know with bubbles and can't try to pick the top.

Holding this bubble together is a rickety edifice.

If Treasury yields surge, look out. Since Obamanomics requires low borrowing rates, watch out for the opposite happening. Obamanomics requires Treasuries to have low rates more than companies to have high stock prices. The more people and businesses suffer, the more the Feds can step in and save them. The question is whether the government can keep long rates low or even for them to move much lower. The Japan scenario, in other words. 1-2% inflation would be fine to allow 3% 10-yar treasury yields. Remember that long rates were much lower than today's all through the 1940s and well into the 1950s even as some years of war and post-war high inflation came and went. In other words, sometimes rates can be well below inflation. It just depends on psychology and on relative opportunities. And right now cash is trash and stocks are fundamentally overpriced.

There is no good general investing solution right now other than trading profits, which most people living normal sane lives cannot hope to achieve. I still think that one of these months, we are likely to see a recrudescence of a Treasury buying surge/panic. No idea when, though. But unlike with stocks as a whole, the 10-year pays you to wait.

Gold continues to act as suggested here. It is frustrating traders, short sellers and long-term investors. The more the financial markets inflate in price and gold does not, the more it is likely that gold prices are set to surge.

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