Frontrunning the Fed

If you don’t believe that the big Wall St dealers own/run the government via their ownership of the FRBNY and their purchase of politicians; then you haven’t been paying attention. Yesterday, the Federal Reserve did as promised a week ago. They used the proceeds of the paid-off portion of mortgages they’ve bought over the last year to monetize a part — a really really tiny part — of Treasury debt. Specifically, they monetized $2.55 billion of Treasury debt. $21 billion of debt was offered to the Fed for monetization. So how did the Fed choose which 12% of that offered debt to actually monetize?

Answer — The Fed monetized the specific CUSIP issues that the big Wall St primary dealers said should be monetized.

This is a really big story with huge implications down the road. First a bit of economics.

When the Fed monetizes long-term debt, it is attempting to both manage the slope of the entire yield curve and create inflation. The beneficiary of that specific inflation is the entity that receives the money first in exchange for the long-term bond because they get to spend that newly-created money before the impact of that additional money is felt in prices. This is not a new concept. It is THE reason that bankers created the Federal Reserve in the first place because it allows them to a)frontrun everyone else in buying stuff that is trending up in price because of capacity constraints and b)become highly liquid and thus become the ONLY buyer around for stuff that is trending down in price because of capacity excess. IOW, banks created the Federal Reserve (and got it enshrined as a legal monopoly by the govt) so they could profit from both sides of the business cycle. And the monopolization of finance is what leads to the cartelization/corporatization of the economy itself (read a bio of JP Morgan).

When the Fed only monetizes a portion of long-term debt; then not all Treasury debt is equal. Those specific issues (CUSIP’s) that are monetized now are worth more than other issues which come due at the same time in the future. Those who know what will be monetized can profit twice by buying the monetized CUSIP and shorting the non-monetized one. The mechanics of this stuff is way above my pay grade but there is something for us minnows to take away from this.

First — it is the minnows demand for “Treasury debt” in general (thus ignoring specific CUSIP’s) that allows this game and ensures that most of the profits go to the sharks. You want to stop this game? Then stop buying Treasuries — and stop funding entities (via your bank account or the stock of corporations that are hoarding Treasuries) that buy Treasuries.

Second, the specific criteria (avoid the cheapest-to-deliver) that the Fed used here is designed specifically to keep the derivatives market going. ie – to keep the big Wall St primary dealers going – even when they are shorting Treasuries. It also has the effect of making the long-term fiscal situation of the US worse — because the debt that is monetized is the lowest interest cost debt rather than the highest interest cost debt. This alone is the sort of kleptocratic insanity that is now leading me to reduce my long-term “normal” US allocation to under 20% (which includes cash). Bluntly, the US is run by a bunch of crooks and there is no reason to invest in the US. The bastards won’t change — and Americans won’t kill/overthrow them — so get out. I now understand why Jim Rogers moved his family to Singapore.

Third, now that the entire Treasury yield curve is being managed/rigged by the Fed, it is no longer an indicator of “risk-free” yield. The big Wall St houses will attempt to keep using this curve as their discount rate for valuing other assets (stocks, housing, etc) – in order to keep those asset markets propped up. And it may well work for awhile – perhaps a long long while. But that is only the source of asset bubbles (ie stock market rampup’s the day of/after every “monetization day” – upcoming days are 8/19, 8/24, 8/26, 9/1) — not of any sustainable growth. And when it reverses, it will reverse hard and fast. So raise your allocation to “real” assets that will preserve their value/utility in the event that the reversal happens. And by “real” assets, I mean REAL assets — not financial assets that are supposedly based on the price of real assets.

Finally, this little circle jerk between the derivatives market and “sovereign” bonds is telling me that upcoming sovereign debt defaults will be magnitudes larger in their effect than they have ever been in the past. Before, sovereign defaults have generally affected mainly taxes and spending by government. Now, they will affect EVERYTHING in the market. All of your assets. All of your dependence on others to provide you with daily needs. The most vulnerable countries are now precisely those where the division of labor has advanced the most and where people have benefited the most from it. Certainly there is nothing imminent to warrant fear. But neither is it going to be reasonable to expect a warning when fear is warranted. Indeed, considering that the sharks own the system; expect deceit/dishonesty from them when things do begin to deteriorate because for them that day will be a golden opportunity. So advice for minnows — get prepared, keep it simple, and don’t believe anyone from/in NYC/DC.

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