Investor Insights:
- Wall Street’s abundant cash reserves have propped up the stock market’s epic bull run.
- Since mid-September, available reserves haven’t met demand for overnight loans.
- When you step back and look at it, the picture is truly shocking.
In mid-September, the Federal Reserve printed billions of dollars and gave it to Wall Street.
Of course, the Fed didn’t call its emergency intervention “printing money.”
Besides the fact that the U.S. Mint’s printing presses remained idle, the Master of Money Supply claimed it wasn’t creating new money. It was only “expanding its balance sheet.”
In central banking, you see, terminology matters.
Calling its rescue of Wall Street “money-printing” would have upset the markets.
It would imply that the Fed was returning to the quantitative easing (QE) strategy it used during the 2008 financial crisis.
That would imply something is seriously wrong in the U.S. financial system.
Calling the creation of $300 billion in two and a half months “balance-sheet expansion” sounds dull and technical.
Trust me. Balance-sheet expansion is printing money — but only for “too big to fail” financial institutions.
I predict the Fed is going to go right on printing money for the foreseeable future, with potentially dire consequences … and the ultimate cause will shock you.
Wall Street’s Most Important Market Trades at Night
Unless the politicians in Washington, D.C., get their act together, the stock market is going to crash … and take you down with it.
Understanding why starts with the so-called repo market.
Wall Street firms don’t have to balance their books at the end of every day. In fact, on any given day, they may have released more money to the market than they took in.
That’s only possible because on an average day, other financial firms take in more money than they release.
The repo market is where firms with excess daily cash — known as bank reserves, held in special accounts at the Fed itself — lend money “overnight” to firms with a daily shortfall.
The interest rate charged for these overnight loans is the basis for everything from consumer loans to decisions on big corporate investments. It’s a critical number.
Now, these overnight loans are secured by collateral assets … and that’s where the problem lies.
Every time a financial institution borrows on the repo market, it must put up either Treasury bills or mortgage-backed securities as collateral. That’s why it’s called the “repo” market … because the borrower promises to repurchase that collateral after 24 hours.
If available reserves can’t meet demand for overnight loans, interest rates spike … as in mid-September.
That sends an icy-cold shiver of fear down the back of every Wall Street banker.
It tells them something is seriously wrong in the U.S. financial system.
The Repo Man Is out of Whack
Insufficient reserves to meet overnight demand can happen in two ways.
One is when Wall Street banks reduce their reserves at the Fed. Sometimes they or their clients have big short-term outlays, such as tax payments or settlements on options trades.
But that’s a short-term problem, quickly resolved.
Ever since the 2008 financial crisis, Wall Street banks have been careful to maintain consistent reserves to avoid the impression that they might be flirting with insolvency.
The other way is if financial institutions convert too much of their cash reserves into Treasury bills.
The Fed’s rules allow banks to meet part of their reserve requirements through Treasury holdings.
But Treasury bills are useless when it comes to lending out money in the overnight repo market. They’re not cash.
Because of that:
- The relative balance between the amount of Treasury bills and reserves in financial markets is critical.
- Any systemic trend that results in U.S. financial institutions buying more Treasury bills than usual threatens the stability of the financial system.
We’re right in the middle of one such trend right now:
- The supply of Treasurys is skyrocketing thanks to the federal government’s enormous deficits, which are the highest they’ve ever been in peacetime. Congress and the White House slashed taxes without slashing spending. Every dollar of the resulting deficits must be met by the sales of Treasury bills.
- Demand for Treasury bills from overseas buyers has been declining because their yields are so low.
Wall Street has been forced to take up the slack by buying evermore Treasury bills every month to help the federal government finance its deficits.
That means Wall Street is converting more and more of its reserves into Treasury bills, which are unavailable to meet the demand for overnight repo loans.
Hence the spike in interest rates … and Wall Street’s fears that vulnerable firms might go insolvent if they can’t find money on the repo market.
Printing Money to Pay Uncle Sam’s Bills
That’s where the Federal Reserve’s money-printing comes into play.
Since mid-September, the Fed has supplied $300 billion to the repo market.
It has done this by purchasing Treasury bills from financial firms to increase their cash reserves. That increases the amount available to lend on the overnight repo market.
When you step back and look at it, the picture is truly shocking.
The Fed is basically printing money to allow the federal government to pay its bills.
That’s not supposed to happen, which is why the Fed is so keen to call its recent actions “expanding its balance sheet.” It conceals what’s really going on … as well as the dangers.
The biggest danger is to your investments.
That’s because up to now, Wall Street’s abundant cash reserves have helped prop up the stock market’s epic bull run. Those reserves have been lent out as loans to U.S. corporations to facilitate their stock repurchases.
With Wall Street firms under enormous pressure to buy government debt to accommodate Washington’s deficits — and the Fed terrified of being exposed as a money-printing facilitator of those deficits — something’s got to give.
And when it does, it’s going to take the stock market down with it.
That’s why it’s as important as ever to keep up with our experts’ insights here in Sovereign Investor Daily. We’re determined to help you profit no matter what the market does.
And I designed the model portfolio in my Bauman Letter research service to withstand periods of market volatility — but prosper too. You can learn more about my unique analysis by clicking here.
Kind regards,
Editor, The Bauman Letter
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