The Fed's Power to Crush an Oil Bubble
FT Alphaville points to a "Conspiracy Theory" purporting Fed engineering of the crash of oil and commodities over the past month.
I would call it a "Theory"; there was no doubt the Fed had to act when
oil was reaching $147, exacerbating inflation and further threatening
the economy.
In summary:
July 11: Fed announces that government would support Freddie Mac and Fannie Mae.
Effect: Up to July 11, hedge funds (also known as the speculators pushing up oil prices) were shorting financials and long commodities. The Fed wanted financials to rally forcing hedge funds to buy in order to cover their short positions. Indeed, that is what happened.
The Fed always announces decisions on Sundays in order to maximize their market impact on Monday.
Through July, the dollar rallied as the risk of holding Fannie/Freddie diminished together with slowing economic growth in Europe and Asia. The stronger dollar extended the commodities tumble (remember the rule dollar up, oil down).
This is exactly what the Fed wants. With inflation risk subdued, they can go about fixing the economy with less criticism from the Armageddonist and hyperinflationary factions. Indeed, the bailouts of Freddie/Fannie would have looked dangerous if oil prices and inflation risk were high because it would have forced the taxpayers to fund the bailout at high interest rates.
Now, there's a small sigh of relief as the Damocles sword of Fannie/Freddie are taken off the shelf. The Fed even has the luxury of possibly cutting interest rates further, an action that had 0% probability two months ago. Jim Cramer is calling for further bank bailouts in order to reconsolidate and diminish uncertainty about the industry (it worked well with Fannie/Freddie, why stop there?)
The Fed wields enough power to crash a speculative oil bubble... that says a lot about its guardian angel status. I think it's an admirable performance.
In summary:
July 11: Fed announces that government would support Freddie Mac and Fannie Mae.
Effect: Up to July 11, hedge funds (also known as the speculators pushing up oil prices) were shorting financials and long commodities. The Fed wanted financials to rally forcing hedge funds to buy in order to cover their short positions. Indeed, that is what happened.
The Fed always announces decisions on Sundays in order to maximize their market impact on Monday.
Through July, the dollar rallied as the risk of holding Fannie/Freddie diminished together with slowing economic growth in Europe and Asia. The stronger dollar extended the commodities tumble (remember the rule dollar up, oil down).
This is exactly what the Fed wants. With inflation risk subdued, they can go about fixing the economy with less criticism from the Armageddonist and hyperinflationary factions. Indeed, the bailouts of Freddie/Fannie would have looked dangerous if oil prices and inflation risk were high because it would have forced the taxpayers to fund the bailout at high interest rates.
Now, there's a small sigh of relief as the Damocles sword of Fannie/Freddie are taken off the shelf. The Fed even has the luxury of possibly cutting interest rates further, an action that had 0% probability two months ago. Jim Cramer is calling for further bank bailouts in order to reconsolidate and diminish uncertainty about the industry (it worked well with Fannie/Freddie, why stop there?)
The Fed wields enough power to crash a speculative oil bubble... that says a lot about its guardian angel status. I think it's an admirable performance.
intuitive and insightful...thanks for that viewpoint.
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Well today Oct 17, oil prices are down to $70 us a barrel.
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