Darshan's Blog

Darshan's Daily Market Ponderings

FOMC Signals February Exit Careful Now.

Thursday 17th December, 2009

Afternoon all,

Well yesterday everything went exactly to plan. I have just about got over the Times Magazine issue (no pun intended), as I have since found out that they also awarded Hitler Person of the Year in 1939 (I kid you not). Let Bernanke have his 15 minutes of fame because the latest FOMC statement, is going to make things very difficult next year.

I am just praying that there is method in the madness because it seems they have taken on board some assumptions based on a few data points and given more details about their exit plans for the stimulus. The latter of course has spooked the market. More on the latter in a moment but first for the crazy talk. Although 10% (officially) of the US population is currently unemployed and standing in a queue waiting to collect their support cheques it seems the last set of labour stats, have been taken at face value by the FED. Let me quote:

Information received since the Federal Open Market Committee met in November suggests that economic activity has continued to pick up and that the deterioration in the labor market is abating.

Okay then. Oh wait but then they go on to say that household spending remains constrained by a weak labor market, modest income growth, lower housing wealth and tight credit. Hold on there, Mr Bernanke surely this is not a concern going forward after all the labour market is improving. This is supposed to be a forward looking statement. Why are you switching from front-view to rear-view mirror like a deranged driver?

Maybe because you really have shown that your entire plan is not working? The whole idea of QE was to expand credit and inflate the economy back towards growth. Of course, in reality it was merely a plan to recapitalise the banks. That much has been done well but the problem of fighting deflation has not, as the credit markets are still trending down. Oh dear Mr Bernanke.

So that leads us on to the most worrying part of the statement.

In light of ongoing improvements in the functioning of financial markets, the Committee and the Board of Governors anticipate that most of the Federal Reserve s special liquidity facilities will expire on February 1, 2010, consistent with the Federal Reserve s announcement of June 25, 2009. These facilities include the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, the Commercial Paper Funding Facility, the Primary Dealer Credit Facility, and the Term Securities Lending Facility. The Federal Reserve will also be working with its central bank counterparties to close its temporary liquidity swap arrangements by February 1. The Federal Reserve expects that amounts provided under the Term Auction Facility will continue to be scaled back in early 2010. The anticipated expiration dates for the Term Asset-Backed Securities Loan Facility remain set at June 30, 2010, for loans backed by new-issue commercial mortgage-backed securities and March 31, 2010, for loans backed by all other types of collateral. The Federal Reserve is prepared to modify these plans if necessary to support financial stability and economic growth.

February 2010 is when this artificial asset price support begins to end, as the slush fund is withdrawn bit by bit. That is when you should be really careful if you are long equities or short the dollar. The market is clearly anticipating this and hence the drop yesterday. However, I still think there will be one final ramp job either into January or mid January so that the funds can distribute the junk to the retail holders. Then it's get real time. After get real time , we will no doubt have more back peddling from the Fed, who will decided to add liquidity again sometime in the second half of 2010. In fact I can almost guarantee it. This market cannot and will not survive without artificial support. So for now stay nimble but be aware that for now, the rug is about to be pulled out from underneath the market and the big money is positioning itself for that. For today, I anticipate more of the downwards drift and then perhaps a spike up either tomorrow or next week. The larger risk is still to the downside as always. Remember $50bn of TAF matures today - that is the sound of juice being pulled out of the market.

Happy trading! Darshan

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