Fed Balance Sheet Shrinks

The expansion of the Fed’s balance sheet took a step back this past week.  According to the latest balance sheet data released by the U.S. Federal Reserve for the week ended November 28, 2012, the Fed’s balance sheet actually contracted fairly sharply by -$19.8 billion to $2.853 trillion.  As a result, since the beginning of QE3 in mid-September, we have now seen a net increase in the Fed’s balance sheet to date of just +$27.7 billion.

So from where did the decline originate this past week?  Ironically, it came almost exclusively from the one line item that is supposed to be increasing at a rate of $40 billion per month under QE3.  During the past week, the Fed showed a net decline of -$17 billion in Mortgage-Backed Securities.  And this occurred despite the fact that the Fed through its Open Market Trading Desk at the Federal Reserve Bank of New York carried out $16.9 billion in gross purchases of MBS securities over the past week.

 

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As has been discussed in past articles, the reason for the disconnect between Fed MBS purchases and its balance sheet expansion to date is due in large part to the nature in which MBS securities trade.  They have long periods until settlement and tend to come through the system in big chunks all at the same time.  This has certainly been true thus far with QE3.  Also, the Fed also continues to hold MBS securities from past purchase programs that are either being called or are reaching maturity, which is also dragging on the pace of the Fed’s balance sheet expansion.

But as each week passes, an increasing reservoir of liquidity is building behind the Fed dam.  To date, the Fed has made net purchases of $184.0 billion in MBS securities, yet a net increase of only $39.8 billion is currently reflected on the Fed’s balance sheet.  In other words, only 20% of the Fed’s MBS purchases to date have even started to make their way through the financial system. 

As the Fed continues to purchase MBS securities each week at an average rate of $17.4 billion per week, the liquidity flood waters will only continue to silently build behind.  And as the flood gates increasingly open and this liquidity flows into the financial system, the impact on stocks (SPY), high yield bonds (HYG) and precious metals including gold (PHYS) and silver (PSLV) is likely to become only more pronounced.

Disclosure: I am long HYG and both gold and silver through the Central GoldTrust (GTU) and the Central Fund of Canada (CEF), which holds a 55% gold to 45% silver allocation.

This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.

Silver: Responded Well On A Difficult Day

Silver was receiving an absolute drubbing at the start of the trading day.  At one point during the morning hours, the white metal had fallen as much as -3.21%.  And while the exact reasons for the decline are subject to debate – perhaps it was the Greece debt deal, or then again it might have been a forced liquidation given the trading volume – the good news coming out of today was how well silver responded in the face of this initial pressure.

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Silver briefly challenged its newly established support at its 50-day moving average (the blue line on the chart) before rebounding sharply higher.  By the early afternoon, it had recovered much of its losses and managed to hold its ground for the remainder of the trading day.  And at the end of the trading day, silver closed down only -0.76% to remain within close striking distance of its recent highs.

Overall, silver has been performing well since mid August when the winds of monetary stimulus from the U.S. Federal Reserve began whipping up in earnest.  And as the flow of liquidity from the Fed under QE3 steadily increases in the coming weeks and months, we may find that silver has much further to run to the upside before it is all said and done.

Disclosure:  I am long silver via the Central Fund of Canada (CEF), which has a 55% allocation to gold and a 45% allocation to silver, as part of a blended precious metals portfolio allocation.

This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.

 

Stocks: It’s Beginning To Look A Lot Like QE

The stock market may finally be showing some signs of life more than two months after the U.S. Federal Reserve launched its latest balance sheet expanding monetary stimulus program (QE3) back in mid-September.  And this recent stock vitality is exhibiting itself through some daily trading patterns that became all too familiar during past QE programs over the last few years.

A closer look at the markets over the last few trading days since the Friday before Thanksgiving reveals some of the distinct market trading patterns that suggest it may be starting to get hopped up on QE.

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The first identifying characteristic of QE is a stock market that is trading lower in the futures market during the overnight hours only to recover back to the green by early trading in the U.S.  Such was the story on Wednesday, when futures were sharply lower overnight on word that European finance ministers had failed to reach an agreement to release the latest tranche of bailout funds to Greece.  But by the time the U.S. markets opened on Wednesday morning, stocks were incrementally higher.  The same could be said for Tuesday with the Moody’s credit downgrade of France, which had futures solidly lower heading into the overnight on Monday.  But once again, by the time the sun was rising on the east coast in the U.S., stocks were only barely lower and quickly moved into positive territory not long after the opening bell.

Another QE attribute is a market that either opens sharply lower or breaks sharply lower during the trading day only to rally back into positive territory by the close.  This was the trading pattern witnessed both the Friday before Thanksgiving as well as this past Tuesday.  In both cases, stocks rebounded to close higher after being down anywhere between -0.6% to -0.8% during the trading day.  While optimism over signs of a potential solution to the fiscal cliff debate in Washington and a few encouraging words from Fed Chairman Bernanke were cited as some of the possible reasons for why the markets rallied back on these days, the substance of these headlines were sufficiently soft to suggest that other forces were likely driving the sudden reversals on these days.

An additional characteristic of a QE driven market is one that is already trading higher through the day and then suddenly ramps to the upside in the final hour of trading.  Such was the pattern on the holiday shortened trading day on Friday.  Stocks got a strong start out of the gates on Monday but stalled after the first hour just above 1400 on the S&P 500.  Then suddenly with about 45 minutes remaining before the 1PM close, stocks exploded to the upside by tacking on another +0.5% by the end of the trading day.

Whether these recent QEish patterns continue in the coming days remains to be seen.  While the Fed’s balance sheet has shown some recent signals that it is finally starting to expand after having been essentially flat through early November, liquidity flows into the financial system may continue to be lumpy in the coming weeks due to the nature of the Fed’s MBS purchases.  But the longer the Fed’s QE program continues, the more this intermittent flow of liquidity is likely to build into a steady stream, particularly if the Fed adds outright Treasury purchases upon the conclusion of Operation Twist at the end of the year.  And as this liquidity flow builds, we are increasingly likely to see the stock market exhibit similar behavior like we have seen over the past week.

This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.

The 200-Day Reclamation

The stock market showed an explosive reversal of fortune on Monday.  For the first seven trading days following the U.S. presidential election, it had been a particularly brutal stretch for stocks with a cumulative decline of roughly -5%.  But as stocks limped into the holiday shortened trading week, the market mood suddenly shifted to euphoria.  On Monday alone, the stock market as measured by the S&P 500 rocketed higher by +2%. 

Was the stock market surge induced by the gestures of optimism from Washington about a potential bipartisan agreement on the fiscal cliff?  Perhaps, but these signals were already out on the street during the trading day on Friday, and the market reaction was positive but more subdued. 

Was it instead the beginning of liquidity finally flowing through from the U.S. Federal Reserve’s QE3 stimulus program?  This is also a possibility, particularly since the Fed’s balance sheet expanded by +$46 billion over the last week ended November 14, which marked the largest one week increase since early 2010.

Perhaps it was suggestions that U.S. capital spending may have bottomed and was poised to bounce higher with greater fiscal clarity in 2013?  Maybe, but this idea should not have come as sudden news today to institutional investors that monitor the economy and markets on an ongoing basis.

The one thing we do know is what it was not.  It was not signs of a sustained improvement in the economic outlook.  It was also not because of the resolution of the ongoing crisis in Europe.  Nor was it inspired by any sense of greater stability in the Middle East.  Instead, today’s markets remain capricious and heavily influenced by the forces of fiscal and monetary policy that have distorted many asset classes beyond their normal behavior.

A few characteristics were particularly notable about today’s move higher in stocks.

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First, stocks were able to reclaim at least for the moment support at the 200-day moving average on the S&P 500 Index.  This is an important development from a technical perspective, for if stocks can continue to hold this critical support level in the coming days, it will reinforce the fact that the current uptrend in stocks remains in tact.  With futures slightly positive heading into the overnight hours, stocks appear poised to hold their ground for the moment.  And the fact that we are heading toward some of the lowest trading volume days of the year should also help, as the stock market has shown an uncanny knack since the aftermath of the financial crisis a few years back of exploding higher through critically important resistance levels on trading days when most investors are away on holiday.

Also, since the market first stabilized after the financial crisis in early 2009, whenever the stock market has posted a sharp and sudden rally of +2% or more following a sustained move lower in stocks, it has marked a definitive reversal and the beginning of a new sustained move higher in stocks.  And with stocks soon entering the seasonally strongest month of the year in December along with a potential fiscal cliff deal around the corner and the flow of QE3 liquidity set to pick up from the Fed with each passing week, it would not be surprising to see such a rally begin to take shape once again this time around. 

The fact that such a rally can occur despite a persistently weakening global economy and ongoing deterioration of the crisis in Europe highlights the degree of distortion in today’s markets.  The stock rally certainly will not last forever, and watching positions closely as events unfold will remain as critically important as ever in the months ahead.

This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.

Stocks: Multi Layered Support At Current Levels

Stocks as measured by the S&P 500 finally made their move and broke decisively below support at the 200-day moving average.  Overall, stocks have shown little fight in trying to hold key support levels in recent weeks.  They only bounced once off of the 50-day moving average before breaking lower, and they battled for only three days at the 200-day before giving up the fight.

Now that stocks have broken several major resistance levels, it is worthwhile to consider where support lies next.  The good news for stock investors is that the market is still holding just above a variety of well established support levels.  The bad news is if stocks break below current support, the trip lower might be swift through a sizable air pocket.

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Stocks currently have technical support on five key readings.

First is a long-term trend line around the 1350 level on the S&P 500.  This level was previous resistance for the S&P 500 during its advance in 2011 and has served as support on a few occasions since breaking above this level in 2012.

Converging at this same 1350 level is an upward sloping trend line dating back to the August 2011.  Since the sharp correction last summer, the stock market has bounced off of this trend line on four previous instances over the last year.  At present, stocks are trading just above this trend line.

Another longer-term trend line is also currently converging at the 1350 level.  This is a trend line dating back to the summer of 2010.  Stocks have responded to this support on four separate occasions over the last two plus years.  And when stocks periodically broke below this trend line in the second half of 2010, they still demonstrated responsiveness to this support in never breaking decisively below it for any sustained period.

Beyond the trend lines, another important indicator supporting stocks is the Relative Strength Index (RSI).  It touched a reading below 30 this week, and the last nine instances that the RSI approached or dropped below 30, it marked the bottom of a stock correction at the time.

Lastly, momentum indicators as measured by the MACD have fallen to levels last seen on only a handful of instances in the last three years.  Comparable levels of negative momentum were seen at past market bottoms over the last three years, with the only exception being the sharp pullback during August 2011.

As a result, the stock market enjoys well established support across a variety of metrics at current levels near 1350 on the S&P 500.  Holding this support will be crucial in the days ahead, for the next stop to the downside could easily be 1300 or below on the S&P 500.

This post is for information purposes only. There are risks involved with investing including loss of principal. Gerring Wealth Management (GWM) makes no explicit or implicit guarantee with respect to performance or the outcome of any investment or projections made by GWM. There is no guarantee that the goals of the strategies discussed by GWM will be met.

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