Some news for investors

The stock market does not work the way most people think. A commonly held belief — on Main Street as well as on Wall Street — is that a stock-market boom is the reflection of a progressing economy: as the economy improves, companies make more money, and their stock value rises in accordance with the increase in their intrinsic value. A major assumption underlying this belief is that consumer confidence and consequent consumer spending are drivers of economic growth.

A stock-market bust, on the other hand, is held to result from a drop in consumer and business confidence and spending — due to inflation, rising oil prices, high interest rates, etc., or for no reason at all — that leads to declining business profits and rising unemployment. Whatever the supposed cause, in the common view a weakening economy results in falling company revenues and lower-than-expected future earnings, resulting in falling intrinsic values and falling stock prices.

This understanding of bull and bear markets, while held by academics, investment professionals, and individual investors alike, is technically correct if viewed superficially but is substantially misconceived because it is based on faulty finance and economic theory.

In fact, the only real force that ultimately makes the stock market or any market rise (and, to a large extent, fall) over the longer term is simply changes in the quantity of money and the volume of spending in the economy. Stocks rise when there is inflation of the money supply (i.e., more money in the economy and in the markets). This truth has many consequences that should be considered.

Since stock markets can fall — and fall often — to various degrees for numerous reasons (including a decline in the quantity of money and spending), our focus here will be only on why they are able to rise in a sustained fashion over the longer term.

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The most important economic and financial indicator in today's inflationary world is money supply. Trying to anticipate stock-market and GDP movements by analyzing traditional economic and financial indicators can lead to incorrect forecasts. To rely on these "fundamentals" is to largely ignore the specific economic forces that most significantly affect those same fundamentals — most notably the changes in the money supply. Therefore, following monetary indicators would be the best insight into future stock prices and GDP growth.

http://mises.org/daily/4654

Bernanke Out Of Bullets But Not Bombs
Michael Pento, 08.31.10, 01:00 PM EDT
Federal Reserve's ability to buy assets and spark inflation is unlimited.

There is an abundance of market pundits squawking about the Federal Reserve being out of bullets. They believe that since interest rates are near zero, and commercial banks have a superfluous amount of reserves, that Fed Chairman Benjamin Bernanke has been rendered financially impotent.

They contend there would be no impact in the battle against deflation if the Fed were to add on yet more excess reserves and there is nothing Bernanke can do to increase the money supply because banks aren't lending and consumers aren't borrowing--despite near-zero interest rates. Therefore, they contend that expanding the Fed's balance sheet would have no affect on markets or the economy.

They are 100% correct in believing that the Fed can't help the economy by printing more money. But that's not because the Fed is out of bullets, but because the Fed has always been incapable of engendering viable growth; its ability, rather, is limited to manipulating the purchasing power of money. While it is true that further quantitative easing would once again hurt the economy, it does not mean the Fed's impact on the value of the dollar would not be profound.

The truth is the Fed may be out of traditional bullets; that is to say, it has worn out the usefulness of purchasing short-term Treasuries from primary dealers to bring down short-term rates that nudge the entire yield curve lower. But the Fed is never, ever out of ammo. In fact, according to Bernanke himself, he may be about to unleash the heavy artillery.

Our central bank controls the printing presses, which gives it the ability to create money from nothing and then buy anything it so desires. It can and does purchase longer-dated Treasuries and other bank assets like loans. The Fed can also buy stocks and real estate from the public. That's why any discussion of Bernanke being unable to fight deflation is ludicrous and absurd.

The Fed could buy a trillion-plus dollars worth of Standard & Poor's 500 stocks while pledging to keep the overnight lending rate between banks near zero. Consumers who sold stock to the Fed would receive a central bank check that would have to be deposited at their banks. The M1 money supply would boom as demand deposits surged. But banks would continue to pay near nothing in interest on their deposits. So Americans would be faced with a choice; earn zero on their savings accounts or take cash out and jump on board the soaring stock market.

The Fed could also create another bull market in real estate. Think about how rich consumers would feel once again because of Maestro Bernanke's new asset bubble. The dollar would tank and the dreaded risk of deflation would be vanquished. Investors would be forced once again to abandon savings and chase runaway prices in houses and stocks.

If you think I'm using hyperbole, read these three quotes from Banana Ben's speech last week from Jackson Hole Wyoming. First there's this gem; "The FOMC will strongly resist deviations from price stability in the downward direction [deflation]," Then Ben explained how committed he is to running our currency into the dirt when he said the U.S. central bank "will do all that it can" to ensure a continuation of the economic recovery and that more securities purchases may be warranted if growth slows. He then cued investors into just how strongly he desires a return of rampant money supply growth and asset inflation when he said; "The Committee is prepared to provide additional monetary accommodation through unconventional measures if it proves necessary, especially if the outlook were to deteriorate significantly."

By using the phrases "will do all that it can" and "unconventional measures," Bernanke doesn't just mean purchasing more mortgage backed securities or longer-dated Treasury debt because he has already done those things in spades. He means that the Fed will not only monetize assets held by banks but will purchase assets directly from consumers and bypass the banking system entirely

The Federal Reserve has openly laid its cards on the table, and Bernanke has put away his toy pee shooter and has broken out the missiles and bombs. Our central bank can never run out of bullets because it has an infinite supply of ammunition that costs nothing to produce. And what most on Wall Street fail to understand is that the Fed is not limited to purchasing assets from banks but can purchase assets directly from consumers in an unlimited fashion. Therefore, it is time investors stop fighting phantom deflation fears and prepare their portfolios for the real upcoming battle, which will be with intractable inflation.


http://www.forbes.com/2010/08/31/govern ... serve.html