Monday, March 17, 2008

Fed Bailout Worsens Market Panic

This is proving to be an interesting day. Just two (!) days (Sunday evening, U.S. time) before the next regular meeting, the Fed has decided to cut its discount rate by 25 basis points and provide funding to various Wall Street firms. First and foremost, this extra funding will go to JP Morgan Chase to help it buy Bear Stearns, who would have collapsed the other day hadn't the Fed, using JP Morgan Chase as its middle man, bailed it out.

Interestingly, this does not appear to reduce market panic. Quite to the contrary, as this move clearly indicates panic at the Fed and that there is a risk of a market meltdown, this have caused sharp sell-offs in global stock markets and a sharp drop of the U.S. dollar against primarily gold, the yen and the Swiss franc, and to a lesser extent also the euro.

As a illustration of the current level of market irrationality and panic, the U.S. dollar has however actually gained in value versus a number of currencies, including the Australian and New Zealand dollar, the U.K. pound and the South Korean won. The move is most dramatic in the case of the won, as it fell today by 3.2%, from 997 to the U.S. dollar to 1,029. It has fallen more than 10% against the U.S. dollar in recent months and more than 20% against the Japanese yen. There is simply no rational justification for why news of deepening problems in the U.S. would cause the U.S. dollar to rise against any currency. While the yen and the Swiss franc was unfairly punished by the carry trade in the past, today many smaller or mid-size currencies such as the won is punished by an irrational fear of anything that market participants have arbitrarily deemed to be "risky". In the mid- to long run that creates profit opportunities in these currencies, but as long as this panic goes on, going into them seem unwise.

Considering the panic in today's move by the Fed, it now seems slmost certain that they will go for at least a 100 basis point Fed funds and discount rate cut tomorrow (or perhaps even today! In these crazy times that can't be ruled out, although it is perhaps not likely) as they know that anything less would disappoint the markets.


Blogger Wille said...

Digressing over current events is interesting, but what do you think will be the next bounce of the ball, the long term consequences of current market events?

As you surely know, with you having predicted the current crisis for some 4 years (I think?), predicting day to day is fraught with error and uncertainty. :)

(Anyone predicting the end of easy-to-get, sub-prime mortgages in 2004 is right on the money today, but still looked like a doom-monger this time last year..).

2:57 PM  
Blogger stefankarlsson said...

Actually, my first call for the end of the U.S. housing bubble was less than 3 years ( November 2004 vs. August 2007) before the end of it. At the time, I didn't think there would be a immediate end to it. It was only in April 2007 that I made that call, which proved to be right on the mark, as the downturn started just a few months later.

As for the long-term consequences of this, that is hard to determine now, especially since I'm not sure about what you mean by long-term. But it seems increasingly likely that this will be the worst post-World War II downturn. And if most conservatives and libertarians continue to reject the Austrian explanation of this that I and Ron Paul and others have advanced, then the left will win the battle of ideas and this will result in a significant expansion of government power similar to FDR's New Deal.

10:50 PM  
Anonymous Anonymous said...

lucky keynes, that he's dead and doesn't have to live with the consequences of his delirium.

7:40 AM  
Blogger Wille said...

As for the long-term consequences of this, that is hard to determine now, especially since I'm not sure about what you mean by long-term.
Well, to be more specific: I'm thinking in terms of what are the consequences and trends 2-3 years down the line that may create future opportunities to make money?
What course of action is appropriate in this moment to preserve the real value of your assets and protect your downside?

11:19 AM  
Blogger stefankarlsson said...

Well, in terms of protecting assets, commodities remain the place to be. Noncyclical commodities like gold and agricultural commodities is the best in that respect.

11:27 AM  

Post a Comment

<< Home