Wednesday, March 18, 2009

A Bold US$1.2 Trillion Move by Federal Reserve

Dow opened low on Wenesday and was staying in the negative territory for most of the time until the Federal Reserve announced a bold US$1.2 trillion effort to lower rates on mortgage and other consumer debt, to spur spending and revieve the economy. Despite the announcement and the high trading volume the Dow put on only 90 points, I guess that can be the end of sub-wave iv. The magnitude of iv may be big but the shrinking trading volume as sub-wave iv moved higher constitute a divergence.

The move by Federal Reserve is necessary to prevent the economy from going into deflation but the amount of money that has been pumped into the US economy is very very worrying. The chart below reveal precisely why.

From year 2000 to September 2008, the fund injected by Federal Reserve into the economy was less than US$0.5 trillion, averaging about US$0.063 trillion a year. Within a span of 3 months from September to December 2008, Fed pumped US$1.3 trillion into the economy and yesterday the Fed has proposed to pump in another US$1.2 trillion within the next 6 months. I think the Fed is creating a new bubble with this massive increase in bank reserve, monetary base and other monetary aggregates. What the Fed is doing now is out of necessity but is rather unconventional. Before the current crisis, Fed only manages money supply and interest rate and take care of the general health of the economy. The current Fed strategy is to expand its balance sheet and to change the mix of the financial assets it holds to stimulate specific troubled market. In the latest fund injection, US$300 billion is to buy long term government bonds. This is the first time since 1960s Fed purchases Government bonds. Another US$750 million will be spent on mortgage-backed securities guaranteed by Fannie Mae and Freddie Mac bringing the total to US$1.25 trillions. With so much money in the system, the Major Wave B rebound should be quite fast and quite high the moment it starts.

I was asked "has the Major B started?". Unlikely, unless the wave v is missing, which is possible in a very strong market. Wave iv already showing weakness, wave v is about to begin. One of my friends has asked me to look at Las Vegas Sands that has dropped from US$140.00 to less than US$2.00. It closed yesterday at US$2.33. It is advisable to do some homeworks before committing.

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