Having despaired halfway through listing just the major risks to the stock market (as well as to the US economy, to the world economy, and generally to the world as we know it – - see Part 1) the question arises why own any stocks. Why not get out or go short? The answer, as usual, was given by the market. It has gone up over one percent since I wrote Part 1 two days ago against the background of news that the Japanese found plutonium in the ground near the Fukushima nuclear power plant, house prices went down again in January and February, consumer confidence declined in both the US and Europe, Gaddafi forces advanced again despite NATO action, and Fitch threatened to downgrade both Ireland and Portugal. Bad news it is, but apparently not bad enough to stop the rally.
So why does the market persist in its effort to move higher  and is only 2% off its recent high (basis S&P futures) and a few percent off the all time highs made in 2000 and again in 2007? (See charts 1-3). After all there is no bubble in high tech or housing markets now and if there is a bubble in commodities now it probably has little net effect on the stock market.
The detailed solution to this enigma is somewhat involved but the gist of it is simple: sharply lower interest rates and higher corporate profits.

Lower Interest rates

(more…)

A well known Wall Street adage says that the market likes to climb a wall of worries. This sounds strange but is true for a very simple reason: If there is no wall of worries the market is probably too high and/or too overbought to go up. Even so, I have never in my professional life (which is a long time) seen the market climb such a long series of very tall walls as it is doing today.

Yet the market does want to go up, and, if none of the possible horror scenarios now materializes, it will. How do I know that? Well, on any day that the news is not awful but just bad – - a day when oil prices go up only $1 or the minuscule housing starts just fall another twenty odd percent – - the market does go up. (more…)

1.    Now that Treasury deposits at the Fed have fallen closer to normal levels it is easier to see the effect of Quantitative Easing 2. As can be seen from charts 1&2, practically all the funds injected by the Fed through its purchases of treasury securities ended up in the banks’ excess reserves, i.e. reserves not needed to make loans. There is no surprise there. Excess bank reserves before the operation started were about a $ trillion so the availability of reserves did not pose an effective limit on growth of bank loans.

Chart 1: Quantitative Easing 2

(more…)