Ad Hoc Commentary – Ben Bernanke: the smartest guy in the room

Despite all the Fed bashing by pundits, yours truly maintain that Ben Bernanke is probably the smartest guy in the room. So whatever Uncle Ben does, we should watch closely. We know the reaction last night was muted, but that is because it is year-end markets and nobody wants to trade now.

We know for some time now that Uncle Ben is stuck in a ZIRP (zero interest rate policy). Our argument for that is simple. The US treasury market is 16 trillion dollars – thus every 1% p.a. is 160 billion dollars p.a. Since most of the debt is concentrated on the short end, Uncle Sam will not have any room to maneuver on rates. So, expect rates to stay at ZIRP till we find a solution to compound interest.

We also know that Uncle Ben second term as Chairman ends Jan 31, 2014 and he had previously stated that he has no intention for a third term. Yours truly think that he will never change his mind on that. So while the sovereign debt crisis should migrate to Japan on Dec 16, 2012 onwards; the next destination will likely be American shores without the guiding light of Uncle Ben. It would be better if Uncle Ben stayed – at least he understands economy. So post Jan 31, 2014, say mid-to-late-2014, America will be particularly vulnerable to a sudden loss of confidence in their debt.

What is notable in FOMC overnight is not the QE, but the linking of ZIRP to unemployment. Since we agree that Uncle Ben is stuck in a ZIRP, this could likely mean that:
1. unemployment will not fall, and more importantly,
2. inflation will likely rear its ugly head next year.

What could be the cause of inflation to rear its ugly head? Are we not deleveraging and didn’t QE not do anything? Why is this time different? Unfortunately, Uncle Ben did not share any insights on that front overnight. However, it is worth remembering that when capital hoards, we typically get deflation. And when capital stops hoarding and start investing, we typically get inflation. Up until recently, corporates had been hoarding to the tune of a few trillion dollars. This looks likely to end in 2013. They will likely run for the doors to invest in private assets away from the taxing hands of governments. The suggestion made by the White House overnight that they should look at reforming corporate tax is a sign of things to come.

Anyway, it looks like yours truly was wrong in staying bearish till year-end. Equities rallied from their lows, and we are at a level where it is at a pivot again. The level to watch for the Dow Jones is likely the Oct 22 level of 13345. A close above that would bring us to the Oct high of 13610. But yours truly is just going to stay with his bearishness till year end and enjoy his Christmas. 2013 will be the year of massive inward FDI into Asia, and a year when deflation finally gives way to inflation in Japan.

Good luck in the markets.