Archives

                 BEST OF DOUG NOLAND

Bloomberg’s Brian Sullivan moderated a panel discussion this week on the U.S. residential housing slowdown. While I agreed with the premise of many of their comments, I was struck by how confident Stephen Roach and Nouriel Roubini were in forecasting rapid U.S. economic retrenchment. Unless one is confident predicting the direction of highly unsettled financial markets and Credit conditions over the coming months – which I am admittedly not - I would urge caution when it comes to predicting economic performance.

In particular, Roach and Roubini were in strong agreement that the Fed – "serial Bubble blowers" that they are – has simply run out of Bubbles to mitigate the bursting housing Bubble. Such analysis is close enough to correct to be dangerous. Indeed, I believe their view overlooks the paramount dynamic today impacting both the Financial and Economic Spheres: the system remains extraordinarily governed by Credit Bubble "blow-off" dynamics. The Mortgage Finance Bubble hasn’t as yet taken so much as a tender body blow, while corporate and government finance remains in rapid expansion mode. M&A and stock repurchases are on record pace. And, importantly, Income Growth has supplanted housing inflation as a key Inflationary Manifestation.

The system is on track for record Credit creation this year, with resulting massive Current Account Deficits and energized Credit systems across the globe fueling systemic asset inflation and ongoing liquidity overabundance around the world – recent sinking commodities prices notwithstanding. The expansive leveraged speculating community remains at the epicenter of systemic Inflationary Biases, as well as recent commodities selling. To be sure, the list of major hedge fund casualties is growing, but to this point the losses meted out to the energy and commodities bulls, along with the bond and equities bears, has proved awfully constructive for the bond and Credit bulls (note from Financial Sphere Watch above how debt market and "credit" hedge funds are among this years top performers).

More than housing – the system’s weak link lies today, as it has for some time, in securities leveraging. And while the summer bond rally has provided relief for bond investors (as well as fun and games for some), it is been destabilizing for the system. The bond bears were run out of town, hedges against higher rates were unwound, while speculations and hedges for lower rates were established. And I would suspect the financial markets’ overwhelming Inflationary Bias has not gone unnoticed by the Fed "hawks," including Messrs. Kohn, Lacker, Moscow and Plosser.

It’s my own view that the summer rally has likely only postponed any eventual move by the Fed to cut rates and has even increased the possibility that more hikes will be necessary. If the interest-rate markets are now forced to abruptly reverse course and price in such a scenario, well, the markets will have relished in the opportunity to do the most damage to the largest number. It is, after all, the dreaded "V" move in market yields – especially MBS – that can prove especially destabilizing to the leveraged players and derivative traders – hence system liquidity. And I don’t want to get all carried away by a couple days of rising market yields. But I do see the current backdrop of Myriad Inflationary Biases haviing the distinct possibility of Deepening Chasms at the Fed.

Doug Noland is a market strategist at Prudent Bear Funds. Their website is www.prudentbear.com.