Below is a great article by Jill of nakedtrader.com!
To recap our recent market timing observations, two weeks ago we noted that the world had returned to the line of thinking that lousy economic developments were good news, since they would give the monetary authorities an excuse to turn on the money taps, which as we all know is the only thing that equity markets really care about. This was immediately proved wrong when lamentable data from around the globe did indeed convince traders that there was no hope for corporate profits, and therefore stock prices, a fact we noted seven days ago. Guess what, since then the prospect of total eurozone meltdown has been met with the assumption of the certain prospect of a tsunami of free money for the banking sector, and prices have rallied. It’s a good thing that this column does not offer investment advice, except of a vague and long term nature to which nobody will ever be able to pin us down.
Before moving on to this week’s main subject, we must mention briefly the events taking place in Europe’s most troubled country. No, not Greece, where mental patients and prisoners have no food, pharmacies are out of medication and universities cannot pay their teaching staff – so nothing has changed, and nobody who doesn’t read the local press knows or cares. We’re talking about Spain, the recipient this weekend of a bailout which was fiercely denied until last Thursday ( thus confirming its immediacy ), but in which the socially responsible Spaniards are supposedly to be treated in an entirely different fashion from the profligate Greeks. Details are sparse and confused, but suffice it to say that we fear that the Iberian people will not be so grateful to their European masters when the real terms come to light.
We suspect that many, if not most, regular visitors to this site are true believers in free markets, so you may wish to cover your eyes at this point. We are going to raise the question of whether money managers should be allowed to use their funds in a totally unrestricted fashion, with the sole purpose of maximising returns. We would not have considered such a question twenty years ago, before LTCM and subsequent horrors, but it seems to us that institutions which can distort financial systems to the point that public money is required to shore them up do need to be controlled. However, nowadays, even that is not really the point. Today’s game is to use massive amounts of money, sometimes created through derivatives, to bring down companies, asset classes or even nations, in a way which is predicted to bring profit to the operator.
The creators of such strategies will tell you, and have probably been taught in business school, that such strategies can only work in inefficiently devised systems, and that a Darwinian social purpose is served by blowing them up. This is a beguiling argument, and we have had to drill through our Friedmanite instincts to understand why we resent the lengths to which the process has gone. Here are some thoughts.
1. The amounts of money engaged in destabilising corners of the financial world for profit has increased exponentially, to the extent that the old-fashioned model of price discovery as a estimate of long-term value has been completely swamped. Every so often this is seen quite clearly when some malfunctioning computer succeeds in selling shares in major companies from $40 down to a dime. Of course, if the exchanges were not so understanding about putting a line through any transactions which the silicon beasts did by accident, the Darwinian effect mentioned earlier might already have led to their extinction.
2. The markets affected include some which affect the daily lives of real people. Why should the NZ dollar have ceased to be primarily a sovereign nation’s currency, and instead have its value determined by the vagaries of the “carry trade”?
3. Matters appear to have got out of hand in the past five years, and the quantities of hot money, seeking short term profit by unconventional means, have multiplied. We feel this must be connected with the money printing operations of central banks, which were supposedly intended to inject funds into their wider economies but have clearly done no such thing.
4. It gets worse, as much of this trading is done by the banks themselves, who are the immediate recipients of the newly minted money. They typically benefit from “too big to fail” status, meaning that if by any chance their punting operations misfire, local taxpayers will pick up the bill.
5. Finally, these activities do not typically come to a halt even after they have been bailed out and entered into national ownership. Institutions which have been saved by taxpayer money continue to operate trading units which attempt to profit by destabilising the economy of the nation which owns them. Are we alone in thinking this has gone too far?
