Sterling Market Commentary for Wednesday March 6th, 2013

Sterling Market Commentary for Wednesday March 6th, 2013

A Look at the Market Since Our Last Blog:  It has been a busy week since our last market commentary blog on Tuesday February 26th.  In that blog I stated that I thought there was a good chance the overall market was entering a period of a pullback.   This was primarily based upon the selloff of the market that was precipitated by the results of the Italian election.  With the Dow Jones Industrial Average setting a new all-time closing high yesterday, I obviously got it wrong with my expectations of a pullback in the overall market.  I tend to believe as a lot of people do who I very much respect, that this market is primarily being propelled higher by the efforts of the Federal Reserve to flood the market with liquidity and push interest rate lower while sending equity prices higher. Unfortunately this is also one of the biggest market manipulations in the history of the world.  Market manipulation is still market manipulation regardless of who is doing it, and there is a reason why it is illegal.

The manipulation of the market for a stocks (as well as bonds  or commodities) always ends badly for those who end up purchasing the stock (or bond or commodity) at manipulated prices.  This is because they end up over paying for what they bought.  A lot of times the manipulation of a market also works out very badly for those doing the manipulation.  It does not matter if this is a penny stock, a bond, or a commodity the results are nearly guaranteed to be bad or disastrous.  Let me give you a few examples of what I am talking about:

  1. The Hunt Brothers Attempt to Corner the Silver Market:  The Hunt brothers of Texas attempted to corner the Silver market in the late 1970s and into early 1980.  It resulted in the collapse of the price of Silver on March 27th, 1980.  Those investors and traders that didn’t get out that day spent the next 30 years waiting for prices to return to those levels.  Those investors/traders who bought right before the price collapse still haven’t seen the price of Silver recover.
  2. Amaranth Advisors – Natural Gas Futures:  In late 2005 and early 2006 this hedge fund attempted to acquire a dominant position in the natural gas futures markets; and force prices higher by limiting the supply of natural gas that could be delivered as required by the contracts.  The fund did succeed in pushing the price of natural gas to around $9 per mmbtu before the price collapsed to less than half that level.
  3. Countless Penny Stock Pump and Dumps:  The Securities Exchange Commission is constantly taking enforcement action against unscrupulous penny stock promoters who attempt to lock up the supply of a penny stock and drive the price higher, after which they dump their holdings on an unsuspecting public and allow the price to collapse.
  4. Government Mandates for Biofuels:  This created an artificially high demand for biofuels, resulting in sophisticated and unsophisticated investors pouring hundreds of millions of dollars into uneconomical projects.  The resulting demand for agricultural products to create the biofuels drove prices higher,  and created bubbles in numerous side industries before the market for the biofuels collapsed due to the uneconomical nature of the cost of production of the biofuels.

Furthermore the excess liquidity created by the Federal Reserve creates asset price bubbles that ultimately burst and destroy the capital of those who own those assets.  Here are a few examples:

  1. The Dotcom Bubble:  The Dotcom bubble of the late 1990s was in part created by excessive easy money on the part of the Federal Reserve.  It subsequent collapse and the losses inflicted on investors caused many of them to swear off stocks and move into real estate investing.
  2. The Housing Bubble:  Less than a decade after the bursting of the Dotcom bubble, excessive liquidity on the part of the Federal Reserve combined with manipulative government regulations created a housing bubble; the collapse of which is still haunting the U.S. economy to this day.

As I asked several times in this week’s edition of the Sterling Weekly,  why should things be any different this time? Particularly when the Federal Reserve has gotten things wrong so many times in the past.  There is no good answer.  The bond market is tremendously larger than the U.S. Housing Market.  When the bubble in the bond market that is being created by the Federal Reserve bursts, as all bubbles ultimately do,  the damage to the U.S. economy is going to make the damage caused by the bursting of the housing bubble look like a kid’s game.

Despite what the market may do in the short term;  I think the Federal Reserve has turned it into a game of musical chairs where no one wants to be left standing when the music stops.

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