Sunday , 16 June 2024

America’s Debt Bubble Will Implode When Fed Pulls Liquidity (+2K Views)

I am extremely concerned about the things that I am seeing in the markets. The U.S. dollar carry trade, soaring gold, and the passing of health care reform are the last straws that are going to eventually break this market’s back. Words: 1248

Further edited excerpts from the original article* at goes on to say:

My Investment Strategy
I have tweaked my investment strategy as follows to raise cash – enough physical cash at home to pay one month’s worth of bills and 6 months’ worth of available cash in a safe conservative bank or credit union. If you do not have the money to do this and live paycheck to paycheck, I would suggest cutting back your 401k contributions to the minimum amount at which your company matches.

The Stock Market is Going to Crash
What really spooked me into my cash call was when I saw the IRX (13 week T-bill) drop below zero. The last time we saw rates that low on the IRX was when the market crashed in 2008. This tells me that the big boys are really spooked. They would prefer to sit and actually lose money in treasuries versus investing in the equity market.

Taxes are Going to Soar
Taxes are going to soar down the road as a result of our bulging deficits. You would probably be better off taking the 50% hit on your 401k now because at the rate we are currently spending, the tax rate might be 70% or higher when you are retiring and getting ready to use it. There is no reason why we won’t see the same thing happen all over again if we ever plan to pay off our trillions in debts because our debt vs. GDP is completely out of control. It’s beginning to make The Great Depression look like a walk in the park.

The Current Situation is Not Sustainable!
The world is rapidly losing confidence in the U.S. dollar as our debt load continues to soar. Gold is slowly decoupling from the dollar and continues to move higher regardless of what bucky does. This is a very troubling sign.

The Fed is Trashing the USD
Move over Yen! There’s a new carry trade in town: It’s the U.S. dollar! This is what has been holding up the equity markets recently. If you haven’t noticed, the market trades right in synch with the U.S. dollar. If bucky drops, the markets rise. If bucky rises, we tend to see moderate sell offs. The Fed is trashing our currency with massive deficits while keeping interest rates at zero at the same time. This is the perfect setup for a currency carry trade.

This is how the carry works: Investors borrow dollars at zero interest rates and then sell the dollar and buy an appreciating currency. After converting the money into a stronger currency like the Aussie dollar, they then run around and buy up assets around the globe that offer a higher yields then the zero yield they get sitting in treasuries. This is a beautiful trade for now because you win twice. You make money based on the simple appreciation of the currency as the dollar continues to fall, PLUS, you also get a nice yield spread off the foreign bonds that you bought that offer yields of say 5% or so.

The problem here folks is everyone is piling into this trade. This is rapidly turning into a speculative mania. Congratulations Fed!: You just blew up another bubble that now has to burst just like every other one has.

Interest Rates Could Increase
So what are the risks here? There are a few that really concern me. The first one is what if the dollar gets disorderly and begins to plunge? The Fed would then be forced to act and protect the dollar by raising interest rates. This would be disastrous for the economy, and anyone stuck in the dollar carry trade would get slaughtered because the dollar would soar as a result. Many of the carry traders use huge leverage so they could potentially get wiped out.

Higher interest rates would also be a disaster for the housing industry and the banks’ balance sheets that are filled with garbage loans. We would also see the market plunge because of the damage higher rates would do to the economy.

A Short Squeeze Could Develop
If the dollar starts to rise on its own which then triggers a short squeeze on all of the investors on Wall Street who have gone short the US dollar which is practically everyone at this point?

We all know when too many people get on one side of the boat it usually flips over. If this occurs, we will see the same cascading effect that I presented above.

The Bottom Line
I see no way out of this fiasco without a lot of pain. You may ask why I advise you to build cash positions if the dollar is in such dire straits? My answer to this is for the immediate future, it will remain the currency that we use in this country. There are also some people out there who believe holding FRNs (Federal Reserve Notes) otherwise known as physical paper dollars is the way to go. The reasoning behind this is the amount of actual dollars in circulation pales in comparison to the amount of debt we have in this country. Some believe that if the economy blows, actual dollars will be very valuable. I am not entirely sold on this idea but it’s an interesting theory.

The market in the meantime could still move higher as long as the dollar carry trade is working. The chance that this can last for a sustained period of time without eventually crushing the dollar is very low in my opinion.

Also keep in mind the fact that the Fed is rapidly running out of QE money and without government stimulus this market is toast because there is not enough liquidity in the economy to replace the Fed and its dollars. This massive debt bubble is going to implode once the Fed pulls its liquidity.

Ironically, if the economy begins to recover globally (and there are some signs of this in some countries), this could potentially be the trigger that pops the debt bubble because a recovering economy would force the Fed to pullout and raise rates as a result of the risk of inflation.

The market basically doesn’t want a recovery right now. It loves high unemployment and a bad economy because it allows the Fed to keep rates at zero which is highly profitable for Wall Street via the games that I described above. Of course our crippled economy is an absolute nightmare for the rest of us as we lose our jobs and our homes as Rome continues to burn.


Editor’s Note:
– The above article consists of reformatted edited excerpts from the original for the sake of brevity, clarity and to ensure a fast and easy read. The author’s views and conclusions are unaltered.
Permission to reprint in whole or in part is gladly granted, provided full credit is given.
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