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Fed’s Printing Press to Fund Deficit for 6 Months

To find a buyer of all the government debt he’s printing, Treasury Secretary Tim Geinthner doesn’t need to travel to China, just walk a mile over to the Federal Reserve building.

With the Federal Reserve set to print $600 billion in order to buy Treasury securities, it is essentially funding the $1.2 trillion deficit for the next six months, according to Ed Yardeni, President of Yardeni Research. It’s even more if you count the reinvestment of proceeds from its mortgage-backed securities portfolio.

“You essentially have the world’s largest hedge fund down the street from the world’s largest prime brokerage,” said Yardeni, who has held positions at both the Federal Reserve and the U.S. Treasury. “I think that QE-2.0 is a very bad idea because it increases the odds of a trifecta of bubbles in stocks, bonds, and commodities.”

This concern wasn’t on the mind of global investors today, who bought up just about everything except the U.S. dollar. The S&P 500 is at a new 2-year high.

That’s why Yardeni is recommending to his clients to not fight the Fed for now. “My hope is that the labor market improves soon, thus convincing Fed officials that they can hold off on purchasing the full $600 billion in Treasuries,” he said.

Among the biggest gainers today were commodities linked to rising inflation. Gold , silver and copper all jumped more than three percent. The dollar index , which measures the greenback versus a basket of other currencies, fell nearly 1 percent.

“The Fed is sowing the seeds of its own destruction,” said Brian Kelly of Kanundrum Capital. “The Fed’s tools to control inflation -- raising rates -- are as blunt as those used to create inflation (QE). The Fed will own $2.5 trillion in US Treasuries by June 2011, or about 25 percent of all debt outstanding and much bigger than China’s holdings.”

Despite the rally today and over the last six months, money continues to flood into bond funds instead of equities as retail investors, still jittery from the credit crisis, doubt the strength of the economy and just want to stay whole. This could backfire if both equities and bonds are in a bubble as Yardeni suggests.

“What’s concerning is that you have so many people currently invested in the bond market and bond funds that really do not know how the product works,” said J.J. Kinahan, chief derivatives strategist at TD Ameritrade. “I think when these do turn around, you could see a bond crash that would make the stock crash of ’08 look like child’s play.”

Republicans won the House of Representatives on a platform of spending reduction. They may not need to do that if they can just get the cash from Ben Bernanke. What that may do to the dollar is another story.

“Commodity and stock prices will rise, but it will not evidence a bubble but rather a permanent reduction of the value of the dollar,” said Peter Schiff, president of Euro Pacific Capital. “As the dollar loses value, prices rise to compensate for the decline.”

To be sure, not everyone buying this rally are agile hedge funds that will all head for the exits when the music stops. There must be some long-term institutional investors that believe Bernanke’s reflation plan will uplift the economy without causing hyperinflation.

“The insistence on overweighting out-year risks over near-term risks is confusing to me,” said Dan Greenhaus, chief economic strategist at Miller Tabak. “A host of people spend so much time saying how much damage the Fed is doing without really at all addressing the potential damage doing nothing might entail.”

* For the best market insight, catch 'Fast Money' each night at 5pm ET, and the ‘Halftime Report’ each afternoon at 12:30 ET on CNBC.

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Trader disclosure: On November 4, 2010, the following stocks and commodities mentioned or intended to be mentioned on CNBC’s "Fast Money" were owned by the "Fast Money" traders; Cortes is short (AAPL); Cortes owns (GOOG); Cortes owns (K); Cortes owns (TSN); Cortes owns (CLX); Cortes owns U.S. Treasuries; Cortes owns U.S. Dollars; Adami owns (AGU), (BTU), (NUE), (C), (GS), (INTC), (MSFT); Adami’s wife works at Merck; Finerman's Firm Is Short (IJR); Finerman's Firm Is Short (MDY); Finerman's Firm Is Short (SPY); Finerman's Firm Is Short (IWM); Finerman's Firm Is Long Russell 2000 Puts; Finerman's Firm Is Long S&P 500 Puts; Finerman Owns (AAPL); Finerman's Firm And Finerman Own (BAC); Finerman's Firm Owns (CMI); Finerman's Firm Owns (M); Finerman's Firm Owns (MCD); Finerman's Firm Owns (SKS); Finerman's Firm Owns (HAIN); Finerman's Firm Owns (YUM)

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