Federal Reserve chairman Ben Bernanke went to the well of make-believe wealth once again, setting the stage for more bond buying in last week’s announcement. With a sullen economy supported by 36 months of smoke and mirrors, the punch bowl was never far away.
The lead singer get most of the attention, but the drummer directs the band. Let’s be clear, the equities markets rebounded in 2009 in response to unprecedented central bank interventions, as the Fed swapped cash for trash so the large banks could buy stocks with money that wasn’t backed by anything of value.
When Quantitative Easing II expired in July of 2011, the market dropped by 15 percent over the next six weeks and only rallied after the Fed statedthey would keep interest rates artificially low. Once again, stocks avoided a day of reckoning, their unofficial bailout financed by people who diligently saved money and have no yield to show for their efforts.
To its credit, Europe resisted counterfeit measures to fix decades of reckless economic policies, fearful of hyperinflation that engulfed Germany during the Weimar Republic. Each unflattering headline, however, led to market declines later rectified by news of stabilization funds, long term refinancing operations and IMF assistance. Talk might be cheap, but fake money is quite the bargain.
As American money market funds reduced their exposure to European banks, the ECB opened swap lines with the Federal Reserve to supply European banks with U.S. dollars, forgetting that in August of 1921 Germany employed a similar tactic. Adam Fergusson explains in “When Money Dies” that the German government bought foreign currencies at any price with paper marks and accelerated inflation. Of course, history might not repeat itself – this time they got paper money in return.
So what’s an investor to do?
The stock market used to be a place where companies could attract capital to finance business activities in exchange for equity. Share prices cooperated accordingly, reflecting potential profit and fundamental analysis to determine a fair value. Today’s climate demands a different approach, one that addresses both the symptom and the disease.
Fervent monetary policy is government’s reaction to a terrible cold, a sign that the unimaginable has become omnipresent, a functioning system atrophied into something far less authentic. These are the actions of sovereign nations who can’t possible pay their bills, and still in possession of unparalleled survival instincts, resort to methods that go beyond the scope of free market activities.
Risk management demands the identification of potential losses and a means to protect wealth against known threats. Entrepreneurs will always find a way to make money and workers have a storied history of adaptation – private industry will be fine. Rhetorical predators, however, renowned for prowling the halls of government on both sides of the aisle, present a far greater danger.
Investors have the unenviable task of protecting assets against fiat currency while simultaneously participating in central bank induced rallies. Ben Bernanke’s most recent carrot remains intact, as stocks are unmoved by the Fed’s latest peace offering. We’ll know in due time if somebody else holds the stick; let’s hope the Fed has purchased that too.
Ivory Johnson, CFP, ChFC, is the director of financial planning at Scarborough Capital anagement, Inc. and has over 20 years of investment experience. Mr. Johnson attended Penn State University, where he received a Bachelor of Science degree in finance. He can be followed on