Another day, another market high. The longer this goes on, the bigger the next crash. In the meantime the Fed is openly bragging about its efforts even though Bernanke Warns of “Rapid and Painful Response to a Looming Fiscal Crisis”.

Bloomberg reports Fed Spends 40% on Benchmarks as Newest Prove Cheapest

The Federal Reserve’s Treasury purchases already have succeeded in driving investors to junk bonds and stocks. Now, policy makers are focusing on benchmark government securities, helping contain rising yields that set rates on everything from corporate debt to mortgages.

It pains me to see such inaccurately worded statements. No one can be pushed into stocks, in aggregate. Except for new stock issuance, dept offerings, IPOs etc., for every buyer there is a seller, and at the end of the day sideline cash is the same.

Moreover, this has been a futures-driven rally. Volume of actual shares trading hands has been low. However, the Fed has, for the time being, succeeded in reigniting a massive Greater Fool’s Game in terms of what speculators at the margin are willing to pay for financial assets.

Bloomberg Continues:

More than 40 percent of the government bonds the Fed bought in January for its so-called quantitative easing were auctioned in the previous 90 days, up from 20 percent in December and 15 percent in November, according to Bank of America Merrill Lynch. The central bank is concentrating on newer securities as its $600 billion program depletes primary dealers’ holdings of Treasuries to the lowest since November 2009.

“They’re getting all the bang for their buck that they can” by purchasing so-called on-the-run bonds, said Mitchell Stapley, the Grand Rapids, Michigan-based chief fixed-income officer for Fifth Third Asset Management, which oversees $22 billion. “When you’re the largest buyer out there, when you replace China in terms of the size of your holdings of Treasury securities, that will happen.”

Bang for the Buck?

In terms of treasury and mortgage yields, the Fed has not gotten any bank for the buck. Yields are way higher except at the very short end of the treasury curve.

However, the Fed has succeeded in creating speculative demand for junk bonds. That in turn has helped lift the stock market.

Quantitative easing has boosted demand for Treasuries as President Barack Obama’s budget deficits exceed $1 trillion, adding to the nation’s $8.96 trillion in marketable debt. Investors bid $3.04 for each dollar of bonds sold in the government’s $178 billion of auctions last month, the most since September, according to data compiled by Bloomberg.

Understanding Demand

It is hard to say there is huge “demand” for treasuries when the Fed is buying them, others are unloading them, and yields are soaring on the high end.

The next Bloomberg quote is correct.

Since Nov. 3, when Fed Chairman Ben S. Bernanke announced the plan to buy government debt to keep the economy from falling into deflation, 10-year yields have increased about one percentage point as expectations for inflation rose. The purchases and signs that the economy is recovering have reduced demand for the safety of government debt in favor of riskier assets and the Standard & Poor’s 500 Index has risen 9.4 percent.

Speculative-grade corporate bond yields fell to 4.68 percentage points, or 468 basis points, more than Treasuries last week, the least since November 2007 and down from 6.22 percentage points in November, according to Bank of America Merrill Lynch index data. Debt rated lower than Baa3 by Moody’s Investors Service or less than BBB- by Standard & Poor’s is below investment grade, or junk.

Fed’s Willingness to Foster Speculation

This is what the recovery has come to: the Fed’s willingness to foster speculation in financial assets to the point of creating more financial bubbles.

Once again, it will not be the banks that get hurt by the Fed’s corrupt policies but those on fixed income and those chasing junk bonds and equities at bubble valuations.

For details, please see

In response to my last post, someone commented “The biggest mistake one can make is to expect federal stimulus will end.

Such thinking is common. It is also wrong.

This is the correct way of looking at things: “The biggest mistake one can make is to think it will matter if federal stimulus doesn’t end.

Valuations eventually matter, and the market will at some point take matters into its own hands regardless of what the Fed does. Europe (especially Greece, Ireland, and Iceland) provides painful examples.

Rapid and Painful Response to a Looming Fiscal Crisis

http://specials.washingtonpost.com/mv/embed/?title=Bernanke%20dismisses%20inflation%20concerns%2C%20says%20unemployment%20to%20take%20several%20years%20to%20get%20back%20on%20track&stillURL=http%3A%2F%2Fwww.washingtonpost.com%2Fwp-dyn%2Fcontent%2Fphoto%2F2011%2F02%2F03%2FPH2011020304657.jpg&flvURL=%2Fmedia%2F2011%2F02%2F03%2F02032011-49v.m4v&width=400&height=250&autoStart=false&clickThru=http%3A%2F%2Fwww.washingtonpost.com%2Fwp-dyn%2Fcontent%2Fvideo%2F2011%2F02%2F03%2FVI2011020304652.html

Quoting the economist Herbert Stein, Bernanke said: “If something cannot go on forever, it will stop. The federal government must stabilize its budget. The question is whether these adjustments will take place through a process that weighs priorities and gives people adequate time to adjust, or whether there will be a rapid and painful response to a looming or actual fiscal crisis.

The longer the Fed pursues these corrupt policies while egging on Congress to do the same, the bigger the financial bubbles, and the bigger the resultant crash. That is what happened in 2008 and it will happen again.

Mike “Mish” Shedlock
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