Friday, January 4, 2013

I guess it's not a lie if you REALLY believe it's true

Many people are aware by now that the FOMC minutes for the December meeting released yesterday contained a statement that suggested more FOMC members were interested in ending the Fed's bond buying program - also known as "QE" - by the end of 2013.  The precious metals were immediately hammered, while there was very little reaction in the bond market and no reaction in the S&P 500 or the housing stocks.

There are two problems with the above.  First, if it were indeed true about the Fed ending QE by the end of 2013, think about what that would mean for interest rates, mortgage rates, the housing sector,the burden of interest payments on our huge national debt, and the economy overall.  If the Fed stopped buying Treasury and mortgage bonds,  interest rates would spike up several hundred basis points, risk of US debt default would skyrocket, government programs would need to be cut by up to 60%, and the US economy would really find out what it means to tumble off the cliff.

Second, who will buy all the new Treasury debt issuance?  The Fed is purchasing approximately 70% of all new Treasury issuance. The Fed, not China or Japan, is the largest holder of our debt.  If the Fed were not buying this paper, who would?  Seriously.  Either future Treasury bond auctions will fail OR it will take significantly higher interest rates to induce new money into Treasuries to make up for the trillions the Fed has been buying.  Of course, the Government could balance its spending and eliminate the need for additional Treasury issuance...I'm investing under the premise that the Government is not going to balance its spending anytime soon (maybe not until a total fiscal/monetary collapse forces the issue).

So it appears the FOMC minutes were either a big lie or a massive smoke screen.  It's not the first time the Fed has suggested that QE would not continue, only to expand it within six to nine months.  

Government deficit spending = de facto QE.  

Needless to say, the Fed has already committed to buying a $trillion+ more in Treasury and mortgage debt in 2013 (and this doesn't even include the $trillion in Government-backed student loans relentlessly marching towards default). Unless the Fed is prepared to shoulder the consequences of ending that program rather than expanding it at the end of 2013, yesterday's plunge in precious metals can be seen seen as a true gift from the markets by anyone who takes advantage of it.