Is the Fed a No Risk Hedge Fund or a Ponzi Scheme?
by The Curmudgeon
Our last Curmudgeon post focused on the Fed's wrongheaded guidance and repeated failures to be transparent. After that piece was written, several big name journalists agreed. But in addition to strong Fed criticism, the world's most successful investor just said the Fed is a great hedge fund, while others call it a Ponzi scheme. Let's start with the Sage of Omaha.
Is the Fed A No Risk Hedge Fund?
“The Fed is the greatest hedge fund in history,” Warren Buffett told students at Georgetown University in Washington. That's mainly due to the U.S. central bank's ability to profit from bond purchases while accumulating a balance sheet of more than $3.4 trillion.
It's generating "$80 billion to $90 billion a year in revenue for the U.S. government. The Fed is now the fourth largest contributor to U.S. government revenue and that wasn't the case a few years ago," according to Buffet.
In fact, the Fed remitted $88.4 billion to the US Treasury Department last year. Those interest payments have ballooned as the central bank built its balance sheet during the past five years.
The Fed "is under no pressure, none whatsoever to have to deleverage," Buffett said. "So it can pick its time, and if you have somebody wise there -- and I think Bernanke is wise, and I certainly expect his successor to be -- it can be handled. But it is something that's never quite been done on this scale. It will be interesting to watch."
The Curmudgeon is not anticipating any reduction of the Fed's balance sheet anytime in the near future. However, we are very concerned that as Fed continues its QE program, it will be increasingly difficult to reverse its monetary policy and shrink its balance sheet from its current size of $3.4T (about 22% of U.S. GDP) to its pre-2008 level of about 6% of GDP.
How long can the Fed exponentially increase the amount of U.S. $'s without the currency collapsing? See Victor Sperandeo's Closing Comments.
Fed and U.S. Government Debt are Ponzi Schemes
In a recent blog post, Michael Snyder wrote:
"The Fed is the biggest Ponzi scheme in the history of the world, and if the American people truly understood how it really works, they would be screaming for it to be abolished immediately. The following are 25 fast facts about the Federal Reserve that everyone should know…"
Not to be outdone, Michael Lombard wrote:
"The Fed cannot stop printing (money) because if it did stop, three things would happen: 1) the stock market would collapse; 2) housing prices would fall; and 3) the government would have no real buyer for its debt (especially in light of China and Japan pulling back on buying U.S. Treasuries)."
"Madoff’s $65.0-billion Ponzi scheme is nothing when I look at the U.S. national debt figures. The more the national debt increases, the higher the interest payment. Think what will happen once interest rates in the U.S. economy start to climb higher, and when creditors start asking for higher returns due to our massive amount of national debt. Even if our national debt doesn’t change and interest rates go back to normal (it’s going to happen), the interest payments on the national debt would rise to over $900 billion a year!"
"Right now we are seeing the government hoping investors will keep re-investing in U.S. bonds while the Fed picks up the slack. But what happens when they say, “We want our money back?” It will make Madoff’s Ponzi scheme look like a joke."
Marc Faber summed up by telling Bloomberg that "we are in QE Unlimited"
"The Fed is run by professors and academics who never worked a single day of their life in the business of ordinary people. They don’t understand that if you print money, it benefits basically only a handful of people---no more than 3% or 5% of the population."
Faber implied that QE has resulted in increased prices for gasoline and heating oil, which adversely affects the public. Hence, QE has been counter-productive for the majority of the U.S. population. Marc said that only 11% own stocks, which have been the main beneficiary of QE. Faber closed by saying that the Fed's stated purpose of initiating QE3 (extended to QE4) last September was to "lower long term interest rates. Since then they've doubled. Thank you very much...Great success."
"The endgame is a total collapse, but from a higher diving board. The Fed will continue to print and if the stock market goes down 10%, they will print even more. And they don't know anything else to do. And quite frankly, they have boxed themselves into a corner where they are now kind of desperate."
Lack of Fed Transparency Criticized by Main Stream Media
Here's a small sampling of opinions, expressed in the past few days, by reputable analysts and journalists:
a] In a note to clients, Credit Suisse's Neal Soss, wrote: "Ideas that seem reasonable in the long run become uncomfortably constraining the closer in time they come. We have seen this with the 6.5% unemployment rate threshold for low interest rates, the 7% unemployment rate marker for the end of QE3, and the mid-June pronouncement that tapering may begin later this year."
"Fed transparency is hard stuff. While we expected today’s Fed meeting would bring more short-run monetary policy visibility, the reality is that the FOMC has left the markets guessing."
"In the spirit of 'watch what they do, not what they say,' it’s hard to know now what to make of the repeated and nearly universal references by Fed officials to taper," Soss writes. "When push came to shove, those words didn’t carry the day," he added.
b] Barron’s Jacqueline Doherty column: “What now seems clear is that it’s going to be a lot harder than most thought for the Fed to remove its stimulus without seeing some major side effects — and not good ones — in the markets. So, given stocks’ amazing gains in recent years, it may be time to start taking chips off the table. This bull market is 54 months old, downright ancient compared with the average bull, which lasts 39 months, notes Frank Gretz, a technical analyst at Wellington Shields.
c] WSJ article, In Speeches, Fed Officials Amplify a Discordant Message: “Less than 48 hours after the Federal Reserve surprised markets by not pulling back on its signature easy-money policy, its communications challenges were on full display—mixed messages from different central-bank officials. The two officials, Kansas City Fed President Esther George and St. Louis Fed boss James Bullard, were speaking at separate events in New York on Friday and disagreed over whether the Fed did itself a favor with the decision to keep in place for now its bond-buying program or may have shot itself in the foot.”
d] WSJ's Holman Jenkins editorial, Rewriting the Lehman Post Mortem: "Today some complain of a "rich man's recovery," but isn't this exactly the recovery our policies have selected for? The rich derive their incomes disproportionately from assets, and the Fed's explicit contribution has been to boost asset prices. The middle class derives its income mainly from jobs, but jobs have been willingly sacrificed to Washington's other agendas. Example: a health-care law that punishes companies for hiring more than 49 workers or employing them for more than 29 hours a week."
"A policy mix of asset bubbles for the rich and a jobless welfare boom for everyone else is not exactly going to produce sustainable recovery or a sound financial system. This is a historic failure. A large share of blame, we're sorry to add, lies with Mr. Bernanke for continuing to offer up QE without getting anything (say, tax reform) in return from the Obama administration that would actually encourage private-sector growth."
Closing Comment from Victor Sperandeo ("the man for all markets"):
To add to what Michael Lombard wrote: To paraphrase: "The Fed must keep printing or the stock market, housing and debt markets will decline into a crash..."
But the U.S. $ will also crash, which as the world's reserve currency will effectively cause "Demand Loans" to be called in as $ reserves drop in value (with respect to other currencies).
That could cause a world depression. So the Fed is trying to protect the entire global economic system with its QE program. This is why the easiest way out is "inflation" not depression or bankruptcy!
Till next time.....................
Curmudgeon is a retired investment professional. He has been involved in financial markets since 1968 (yes, he cut his teeth on the 1968-1974 bear market), became an SEC Registered Investment Advisor in 1995, and received the Chartered Financial Analyst designation from AIMR (now CFA Institute) in 1996. He managed hedged equity and alternative (non-correlated) investment accounts for clients from 1992-2005.