Best of the Week
Most Popular
1.Spain Ignores Scotland Lesson as Catalan Independence Referendum Could Spark Civil War - Nadeem_Walayat
2.Used Car Buying From UK Dealer Top Tips, CarMotion.co.uk Real Customer Experience - N_Walayat
3.Spanish New Civil War Begins as Madrid Regime Storm Troopers Quell Catalan Independence Rebellion - Nadeem_Walayat
4.Virgin Media Broadband Down, Catastrophic UK Wide Failure! - Nadeem_Walayat
5.Are the US Markets setting up for an Early October Surprise? - Chris_Vermeulen
6.The Pension Storm Is Coming To Europe—It May Be The End Of Europe As We Know It -John_Mauldin
7.Stock Market Crash 2018; Will it Prove to be Another Buying Opportunity - Sol_Palha
8.The Profoundly Personal Impact Of The National Debt On Our Retirements - Dan_Amerman
9.Stock Market as Good as it Gets; Like 2000 With a Twist -Gary_Tanashian
10.1987 Stock Market Crash 30th Anniversary Greatest Investing Lesson Learned - Nadeem_Walayat
Last 7 days
Debt-Driven Consumer Economy Breaking Down - 23rd Oct 17
Next Wall Street Stock Market Crash Looms? Lessons On Anniversary Of 1987 Crash - 23rd Oct 17
This Super Metal Is Set To Soar By 300% - 23rd Oct 17
More New Record Highs As S&P 500 Gets Closer To 2,600 Mark - 23rd Oct 17
Another Minor Stock Market Top? - 23rd Oct 17
Bitcoin Hits $6,000, $100 Billion Market Cap As Helicopter Ben and Jamie Demon Warn The End Is Near! - 22nd Oct 17
Time for Caution in Gold Miners - 22nd Oct 17
“Great Rotation” Ahead; Will it Be Inflationary or Deflationary? - 21st Oct 17
The Trigger for Volatility, Rates and the Next Crisis - 21st Oct 17
Perks to Consider an Agent for Auto Insurance - 21st Oct 17
Emerging Megatrends Hurting Consumers - 21st Oct 17
A Catalyst of the Stock Market Bubble Bust - 21st Oct 17
Silver Stocks Comatose - 21st Oct 17
Stock Investors Ignore What May Be The Biggest Policy Error In History - 20th Oct 17
Gold Up 74% Since Last Stock Market Peak 10 Years Ago - 20th Oct 17
Labour Sheffield City Council Employs Army of Spy's to Track Down Tree Campaigners / Felling's Watchers - 20th Oct 17
Stock Market Calm Before The Storm - 20th Oct 17
GOLD Price Creates Bullish Higher Low - 20th Oct 17
Here’s the US’s Biggest Vulnerability in NAFTA Negotiations - 20th Oct 17
The Greatest Investing Lesson Learned from the 1987 Stock Market Crash - 20th Oct 17
Stock Market Time to Go All-in. Short, That Is - 19th Oct 17
How Gold Bullion Protects From Conflict And War - 19th Oct 17
Stock Market Super Cycle Wave C May Have Started - 19th Oct 17
Negative Expectations, Will the Stock Market Correct? - 19th Oct 17
Knowing the Factors Affect your Car Insurance Premium - 19th Oct 17
Getting Your Feet Wet In Crypto Currencies - 19th Oct 17
10 Years Ago Today a Stocks Bear Market Started - 19th Oct 17
1987 Stock Market Crash 30th Anniversary Greatest Investing Lesson Learned - 19th Oct 17
Virgin Media Broadband Down, Catastrophic UK Wide Failure! - 19th Oct 17
The Passive Investing Bubble May Trigger A Massive Exodus from Stocks - 18th Oct 17
Gold Is In A Dangerous Spot - 18th Oct 17
History Says Global Debt Levels Will Lead to Another Crisis - 18th Oct 17
Deflation Basics Series: The Quantity Theory of Money - 18th Oct 17
Attractive European Countries for Foreign Investors - 18th Oct 17
Financial Transcription Services – What investors should know about them - 18th Oct 17
Brexit UK Vulnerable As Gold Bar Exports Distort UK Trade Figures - 18th Oct 17
Surge in UK Race Hate Crimes, Micro-Racism, Sheffield, Millhouses Park, Black on Asian - 18th Oct 17
Comfortably Numb: Surviving the Assault on Silver - 17th Oct 17
Are Amey Street Tree Felling's Devaluing Sheffield House Prices? - 17th Oct 17
12 Real-Life Techniques That Will Make You a Better Trader Now - 17th Oct 17
Warren Buffett Predicting Dow One Million - Being Bold Or Overly Cautious? - 17th Oct 17
Globalization is Poverty - 17th Oct 17
Boomers Are Not Saving Enough for Retirement, Neither Is the Government - 16th Oct 17
Stock Market Trading Dow Theory - 16th Oct 17
Stocks Slightly Higher as They Set New Record Highs - 16th Oct 17
Why is Big Data is so Important for Casino Player Acquisition and Retention - 16th Oct 17
How Investors Can Play The Bitcoin Boom - 16th Oct 17
Who Will Be the Next Fed Chief - And Why It Matters  - 16th Oct 17
Stock Market Only Minor Top Ahead - 16th Oct 17
Precious Metals Sector is on Major Buy Signal - 16th Oct 17
Really Bad Ideas - The Fed Should Have And Defend An Inflation Target - 16th Oct 17
The Bullish Chartology for Gold - 15th Oct 17
Wikileaks Mocking US Government Over Bitcoin Shows Why There Is No Stopping Bitcoin - 15th Oct 17
How to Wipe Out Puerto Rico's Debt Without Hurting Bondholders - 15th Oct 17
Gold And Silver – Think Prices Are Manipulated? Look In The Mirror! - 15th Oct 17

Market Oracle FREE Newsletter

3 Videos + 8 Charts = Opportunities You Need to See - Free

Enjoy the Stock Market Rally While it Lasts, Super Mario Draghi’s Bazooka is a Dud

Stock-Markets / Eurozone Debt Crisis Sep 07, 2012 - 06:37 AM GMT

By: Money_Morning

Stock-Markets

Diamond Rated - Best Financial Markets Analysis ArticleKeith Fitz-Gerald writes: Not too long ago I mentioned that whatever European Central Bank President "Super Mario" Draghi delivers, it had better be big.

Because the only way he could hope to shore up the beleaguered e uro, wrest control of interest rates from the modern day financial pirates that dominate credit default swaps and break the impasse between skittish investors was with a monetary "bazooka."


We certainly got one yesterday when he announced an unlimited bond purchase program designed to do exactly this.

The S&P 500 shot up 26.13 points while the Dow and Nasdaq both tacked on 216.01 and 62.80 points respectively. European markets also moved sharply higher on the news as well while Spanish and Italian yields tumbled at maturities of every length suggesting traders relaxed their risk aversion stance considerably.

Under Draghi's plan, the ECB will be buying unlimited amounts of short-term sovereign debt while also sterilizing that debt-- ostensibly to stave off concerns about hyperinflation and further money printing.

Up to now, the ECB has only purchased troubled EU bank bonds as a buyer of last resort. So this is a big change now that Draghi is talking about stepping up as a sovereign debt buyer, albeit also of last resort.

Draghi noted interestingly that the ECB will retain exclusive decision making on when to engage in purchases, the amounts purchased and when to stop. This effectively puts the politicians on notice that further bickering will not be tolerated.

Further, Draghi did not rule out purchases of Greek, Portuguese and Irish bonds when those countries regain practical access to the bond markets.

There are a couple of things that stand out here...

A Cause for Fear-Not Celebration

First, things are so bad that insiders are using euphemisms to describe Draghi's plan which is officially referred to as a "blueprint" and called "Monetary Outright Transactions."

I don't know about you but if it smells like a duck, walks like a duck and quacks like one, too...odds are pretty good it's a duck.

It doesn't matter whether you are talking quantitative easing or bond purchasing. The fact that things are so bad that central banks - first the BOJ, then the Fed, now the ECB - have to wade in as lenders of last resort should be a cause for fear rather than celebration.

If not now, than a few years from now, when it all comes back to roost.

Here's why.

Under Draghi's blueprint, the ECB is going to be buying bonds from troubled sovereigns. The banks, meanwhile, "sterilize" their debt by investing with the ECB.

The only trouble is that the banks have been borrowing money from the sovereigns all along so the money they are "investing" to sterilize the ECB's purchases really came from the ECB in the first place.

The money is simply going around in circles - whether that's like a tornado or a toilet bowl depends on your perspective.

Figure 1: Fitz-Gerald Research AnalyticsThen there's the cash itself.

As I understand it, Draghi's plan presumes that European banks are going to invest it in the ECB as part of the sterilization process. Last time I checked, many European banks are functionally insolvent because they don't have enough cash to operate let alone invest the excess, especially when it comes to Spanish and Italian banks.

At the same time, banks are deleveraging in order to meet revised capital requirements. They are selling assets and scaling back lending. When you scale back lending you have less credit. And less credit means less growth.

The ECB itself forecasts the economy will expand by 0.5% in 2013 and a deeper economic contraction in 2012 that shows Eurozone GDP dropping 0.4% instead of 0.1%.

In other words, the numbers are already going in the wrong direction - and that's before any sort of austerity whatsoever. Imagine what happens when somebody actually starts getting serious about spending less.

Second, the plan targets sovereign government bonds with 1-3 year maturities while also including longer dated instruments that have residual maturities within the 1-3 year time frame.

That means there are huge swathes of the credit market that will not be stabilized nor sterilized. It also fails to address corporate and private debt both of which have also reached problematic levels in the EU just like they have here in the United States and Japan.

According to Eurostat long term sovereign debt accounts for between 74.6% and 98.9% of total debt in 23 EU member states. Shorter term levels of less than 5% were recorded in Estonia, Slovenia, Austria, Slovakia and Poland. Only Sweden and Romania presented a significant short term debt ratio which Eurostat defined as greater than 23% according to the latest data.

Figure 3: Eurostat

In other words, by addressing the short term debt (in purple), the ECB is potentially leaving the bulk of the long term market (in yellow) out of the picture.

(Admittedly, details are hard to come by on this point only hours after Draghi's announcement so I'll plan on an update for Money Morning readers in the weeks ahead as we learn more about the exact debt composition details.)

Third, Draghi's concept of "unlimited" really bothers me. It's been a common theme so far because policy wonks want to "send a signal" to the markets that they are serious about fixing this problem.

I don't know about you, but I am tired of signals.

What I would like to see is governments learning to live within their means and the derivatives traders who have fractured the credit markets, making Draghi's actions necessary, held accountable for having driven the rest of the world to the brink of financial oblivion.

Granted, Draghi did say that nations requesting purchases will have to apply to the ECB and maintain specific behavior to qualify on a periodic basis, but so what.

EU membership supposedly required strict adherence to the Maastricht criteria which formed the basis of the initial economic and monetary union and that's been effectively ignored or violated six ways to Sunday since it was signed in 1991.

So Now What?...
Draghi's plan is little more than a fresh shot of intoxicants for stimulus addicted markets. I have no doubt that it will create a "rush" that people enjoy.

How big and how long this "rush" lasts really doesn't matter - two weeks or two years - I don't know.

What's far more important is that investors think through what will happen next and take steps to help to protect their money once the high wears off.

I'm not trying to ruin your day but I think it's much more important in this instance to be a futurist than a nowist.

1.Buy what the ECB is going to be buying...that's short term EU debt. Just like you don't want to fight the Fed in the United States, Draghi showed Thursday you don't want to fight the ECB either.
2.Buy gold. Like that's a surprise. Gold is a hedge against further crisis. Whereas once it was reserved for the periphery, it's now a foundation investment. Further, because of its generally low historic correlation to other asset classes, adding gold - even now - can help dampen overall portfolio volatility.
3.Buy TIPS or variable rate bond instruments that have either an inflation escalator built in or the ability to adjust interest rates as they begin to move higher. No matter how Draghi or any other banker positions this, bond buying and sterilization merely delays the inevitable seeds of inflation that are being sown in the meantime.
4.Short the e uro. I've made no bones about it since this crisis began that the e uro's very existence is at stake here. That means shorting the e uro is the way to go if you agree. After a Draghi bounce I still expect it to hit parity with the US dollar before the dust settles.

At the end of the day, I'll take a rally. Right now the world's investors could use one psychologically and financially. But, get ready for reality.

Once traders and central bankers figure out what unlimited actually means and how expensive Draghi's bond bazooka will become I have no doubt we're going to experience the entire doom, gloom and boom cycle all over again.

Source :http://moneymorning.com/2012/09/07/enjoy-the-rally-while-it-lasts-super-mario-draghis-bazooka-is-a-dud/

Money Morning/The Money Map Report

©2012 Monument Street Publishing. All Rights Reserved. Protected by copyright laws of the United States and international treaties. Any reproduction, copying, or redistribution (electronic or otherwise, including on the world wide web), of content from this website, in whole or in part, is strictly prohibited without the express written permission of Monument Street Publishing. 105 West Monument Street, Baltimore MD 21201, Email: customerservice@moneymorning.com

Disclaimer: Nothing published by Money Morning should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investent advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication, or after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Money Morning should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

Money Morning Archive

© 2005-2017 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Catching a Falling Financial Knife