The day free markets died
By Doug Wakefield with Ben Hill
Though our government has increasingly influenced our markets since the
creation of the Federal Reserve in 1913, we have recently reached the point
where it would be a glaringly obvious misnomer to call the markets "free". And
while some aspects of a free market remain, those who've studied the day-to-day
operations of our nation's banking system and the stock markets' performances
at certain times, would likely come to the conclusion that, on occasion, the
state, through the Fed and certain banks, intervenes to engineer market
bottoms.
Am I talking about something that is done in secret to which only
the most privileged are privy? While the history of global politics and global
banking has always been based on secret meetings, those who've read about the
government's extensive intervention, at critical points in our markets -
usually occurring at the rule-making level - are well aware of the manipulation
about which I write. Since the credit crisis became public knowledge to those
who follow the financial news, we have seen four market bottoms.
We only need to look at recent history to see the merits of our previously
stated hypothesis. If I am correct, then we must set aside the tired
assumptions of the market's "random walk" or "the average investor’s reaction"
to the latest breaking news as the impetus for large market moves.
Instead, we must consider Wall Street and the Fed's actions when prices start
to decline. Do they focus on facilitating exchanges between buyers and sellers,
or has their focus shifted to engineering US equity market bottoms when
critical price levels are met? Far from an academic discussion, this issue
strikes at the very heart of confidence in our markets, which was born out of
the "freedom" that has been associated with capital markets for generations.
With various sources continuing to use phrases like "worst in 20 years" or "not
seen since the Great Depression" to describe the markets, we should be asking,
"When they are at or nearing bottoms, do our equity markets demonstrate what
looks like naturally occurring or contrived market action? More specifically,
do the billions of dollars worth of loans made to certain economic players have
an effect on the markets? If the public received such generous funding on such
generous terms, how would this affect market dynamics?
Point number one on the main chart at the beginning of this article (above)
shows us that a bottom occurred on August 16, 2007, the day prior to equity
options expiration Friday. As we can see in the next two charts, banking and
brokerage stocks went up sharply during these two days.
So, let's look at what happened. On August 16, at an unscheduled meeting, the
Federal Open Market Committee (FOMC) - a group of bankers paid by bankers to
"assist" bankers in their time of need - decided that it was necessary to
immediately cut rates. Now, after watching rates go up since the summer of
2004, and housing turn south in late 2005, why did the Fed, all of the sudden,
decide that it needed an "emergency rate cut" on August 16? Was it coincidental
that the emergency rate cuts occurred after the Dow had been falling sharply
and the day prior to option's expiration Friday, on the 17th?
More specifically, if stocks continued to stay at, or fall lower than, their
opening prices on the 16th, would Wall Street be on the hook for billions in
losses due to put contracts - a leveraged short selling tool? Of course not;
this was just a "random, fat tail" event that no one could have foreseen. If
banks and brokers were taking substantial losses during the five days prior to
August 16, were there any clues that they were about to begin a sharp rebound?
Was the psychological impact of the Fed lowering the discount rate the sole
reason that these two sectors of the market exploded to the upside?
Or, was there something else added to the punch bowl? The numbers below suggest
that it was more than just optimism that started the markets moving skyward
again. Contrast the Fed's total loans to the banking community for the week
ending August 15th - one day before the August 16 bounce - with the Fed's total
loans reported just seven days later, on August 22. Would a one-week eightfold
increase in short-term loans provide an incentive to equity market speculators?
Again, on November 27, 2007, the Dow reached another considerable bottom.
Again, the four-week decline in banking and brokerage stocks leading into
options expiration week suggests that the markets were under sustained
pressure. Someone had to come up with another game plan. Evidently, some
operational changes would be necessary before we arrived at the December 16
option expiration week.
As we came out of Thanksgiving week, help was already on the way. The markets
started to rally. During the week of December 5, the Fed increased its "other
loans" lending by almost 40 times, from US$54 million to $2 billion. And since
that would not be enough, on December 12 the Fed announced the creation of the
Treasury Auction Facility, which allowed for an additional 24-fold increase
from its December 5 lending - to $48 billion. Again, this was a 24-fold
increase on top of the 40-fold increase from November 28 to December 5.
If we move to the next market bottom on January 23, we are likely to notice
more of the same. As prices in the equity markets finally began to parallel
those of the real estate and debt markets, the month of January was not
starting out well.
The Monday after the January 18 options expiration week, markets around the
world took a bath. How would the central financial market planners convince the
investing public that all was well? As we headed into the February and March
options expirations, how could mission control convince the public that a bear
market could be, or had been, avoided? How could they get market prices, and
especially their own stock, to explode higher?
Those who seek to explain the Dow's four major bottoms occurring over the past
seven months without taking the specific, foundational, operational changes
that have occurred across the same span into account, do so to their own and
others' detriment.
(As you notice, this article only takes us up to the January options expiration
week. For current worldwide developments surrounding this topic, check our
http://www.bestmindsinc.com/ website.)
Doug Wakefield is the president of Best Minds Inc, a registered
investment advisor. He can be reached at doug@bestmindsinc.com
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