For Monday November 18, 2013, We Recommend Against Investing

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Investment Recommendations:

Avoid US markets and watch closely to see what trend develops.  Cash positions (including currency) and price inflation hedges are still recommended.  There is too much uncertainty in US markets right now to make an investment recommendation, although it is probably safe to hold any currently owned equities through the end of the year.

Technical Comments:

The S&P 500 advanced 0.42% on Friday with volume above Thursday but below the 30 day moving average.  Even though below average on volume, Friday was a strong-volume up-day, the second such day in the past week which saw only one strong-volume down-day.  It appears the daily market data is moving in a bullish direction.  If the S&P 500 were to decline about 63 points on Monday (-3.5%) our market forecast would likely change to an uncertain trend.

Subjective Comments:

We have done additional analysis on the US money supply (M2) growth over the past 5 weeks.  The accelerated in growth in October is likely to delay any market decline through the end on the year.  If you have investments you have been holding and want to hold through the end of December to avoid the capital gain taxes in 2014 that seems a safe decision.  We remain concerned the current bubble-boom will be unable to sustain current market levels into 2014 if the M2 growth rate remains lower than the 9.2% annualized growth experienced in 2012.

The current Quantitative Easing by the Fed has been in place since the start of January 2013.  Under the QE policy the Fed has been printing $85 Billion per month.  At the end of December that will be 12 full months of money printing, creating $1.02 Trillion Dollars and dumping it into the money supply.  Consider these statistics of the money supply:

  • 12/31/2012 M2 was $10.58 Trillion
  • 11/4/2013 M2 is $10.94 Trillion
  • JAN13 – OCT13 is 10 months of $85B/month QE = $0.85 Trillion printed year-to-date
  • Start with M2 from 12/31/13 of $10.58T and add the QE of $0.85T = $11.43 Trillion, but M2 now is only $10.94T, a difference of $0.49T

The point in these numbers is this; the Fed will have printed $1 Trillion new dollars by the end of this year, but the M2 money supply looks like it will have increased only half that amount.  There is $490 Billion Dollars that did not stay in the money supply.

This is possible by the maturation of loans made by fractional reserve lending.  Under fractional reserve lending new money is added to the money supply when a commercial bank makes a loan.  When that loan is paid off, the money (in the form of credit) that was lent ceases to exist.  So the Fed is printing money like mad, yet roughly half of the money created by the Fed remains in the M2 money supply after a year of printing.  The Fed’s funny-money continues to swell excess reserves in commercial banks which are now at $2.38 Trillion Dollars.  Historically the Fed had much more control over the money supply, but with over $2 Trillion in excess reserves the commercial banks are now able to counter a lot of the Fed’s influence.  If the Fed were to announce an acceleration of the printing press, the markets would surely react by going up in the short term on such news.  If commercial banks simply continue to accumulate the new money into excess reserves, then the overall M2 growth rate would not change.

Looking closely at required reserves of the commercial banks provides a means to measure net lending.  When required reserves increase, banks are lending faster than old loans are maturing.  The inverse is true, and when required reserves remain unchanged then new loans are being created at the same rate old loans are maturing.  There was an uptick in required reserves in October.  This explains why M2 accelerated.  Commercial banks accelerated lending.  It is not yet clear if banks will sustain this new rate of lending or not.  Time will tell, and this is why we remain hesitant making an investment recommendation based on Austrian Business Cycle Theory and the growth rate of the US money supply. 

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