The stock rally stalled this week when banking stocks stumbled. in 2008, it was the 'toxic illiquid assets' that stopped up the system. in 2010, it is the stampede of foreclosures on that toxic illiquid asset mess that has stopped up the system. Over the past couple of weeks, the banks agreed to halt the foreclosure process across the nation. Seems that no one quibbled about the fraud in lending on the front side of the sales process. Now everyone is upset about the fraud on the backside of the foreclosure process. Or maybe the government just didn't want a million foreclosures in the year to show up in dispute of a well publicized and much cheered economic recovery. The fear is that the mortgage paper absorbed by Fannie and Freddie might get sent back to the banks if the foreclosures are not legitimate. Yes, there are a lot of problems from bad signatures to missing paperwork. This could cost the banks billions.
Also at stake is the idea that banks that extend loans must retain the right to evict when payments are not met. As the foreclosure lines get longer and longer, the ability to evict in a timely manner becomes more problematic. And at the end of the day, if the banks now have to take more time to make sure the process is done correctly, expenses are sure to rise. Thus, banks stumbled this week and muted the QE2 rally. Well, I should say the 'QE2 anticipation rally'.
Quantitative easing is the operation conducted by the Federal Reserve whereby they buy Treasuries from the big banks. The Fed gets rid of garbage mortgage debt and the banks get billions to lend. Okay, okay - please stop laughing. We all know that the lending model is a failure. The banks use the money to jack the stock indices higher. The rally from August has added more than a trillion dollars to Americans' net worth. Unfortunately, when Wall Street gets on a drug, the eventual withdrawal process is ugly. That drug, is Federal Reserve stimulus like the QE variety.
We know the government lies about everything so I don't even pay much attention to 'government data'. Supposedly, the economy lost some jobs last month but gained some jobs in another column. Inflation is up but if you don't count the things that are up in price, inflation is at zero. Sorry, SSN recipients. Consumers were supposedly buying but feeling less confident. The economy added jobs but more people applied for unemployment benefits. In other words, our government could tell the truth if Jesus wrote it on index card for them to read.
So let's look at a chart. The chart below is a 15-year look at the US dollar in green and the banking ETF, BKX, in blue. The chart of the BKX looks to me to be a double top so I took the liberty of drawing in a neckline in red. The red arrows show the anticipated target low once the neckline is broken. Check. Interestingly, I call 2003 the 'magic year'. Everything changed in 2003. The market was overtaken by the Fed and no longer functioned from that point on. For instance, the BKX and the dollar were pretty well correlated until 2003. Since, they are inversely correlated. The Fed has made a mess of the indices and life in general. Where do we go from here?
The dollar is heavily oversold right now. It is due for a bounce. Thursday and Friday it did indeed bounce. Banks fell. The dollar might bounce some more next week and the week after, but the Fed will soon be back in QE mode which destroys the dollar. Thus, banks might continue falling and the indices might just wallow in the low 11,000 range. But soon, Santa will be back driving the indices higher. Uh, I mean Bernanke will be back driving the indices higher. Just be advised that POMO activities are scheduled frequently in the coming weeks so there should be a few pretty strong days in store for the Dow that will quickly be tempered by the banking mess.
15 years - BKX in blue, USD in green
Chart courtesy StockCharts.com
Disclaimer: The views discussed in this article are solely the opinion of the writer and have been presented for educational purposes. They are not meant to serve as individual investment advice and should not be taken as such. This is not a solicitation to buy or sell anything. Readers should consult their registered financial representative to determine the suitability of any investment strategies undertaken or implemented.