The stock market keeps rallying. Has Rule Number One – Don’t fight the Fed – been repealed?
The answer is no. But there are many sources of liquidity. The Fed is the most important, but there are other contributors. And investor liquidity preferences can and do often shift between classes of assets, like stocks, bonds, and commodities.
There’s no longer sufficient liquidity in the US market system to allow for concurrent bull markets, and there is less and less liquidity all the time.
But there’s still enough for one market to rally at the expense of another. When dealers, and big institutions liquidate bonds, they’ve been buying stocks, and that has kept the pot boiling for a little longer than I thought it would. So stocks have headed for the obligatory test of the highs before turning down for the “big one.”
The Fed isn’t the only central bank in the world of course, and its two big partners in crime, the BoJ and ECB are still printing money. With the Fed pulling money out of the system in increasing amounts, we need to keep an eye on the big money printers in the rest of the world. They may hold the key to when US stocks begin to decline in earnest. Europeans in particular are big investors in US assets. So when the ECB prints money, some of that money instantly finds its way into the US.
There have been rumors for months that the ECB will end its QE purchases soon. They’re expected to announce cuts in their rate of purchases this Thursday – in their press conference following the Governing Council meeting. That will happen at 2:30pm CET, which is 9:30am EST for those of you who are not overseas. The conference will be live streamed right here at this link.
The end of QE in Europe could be enough to turn a flattening liquidity picture in the US to outright shrinkage. The liquidity graph of the combined assets of the Fed, ECB, and BoJ has already turned flat. A turn to the negative would be devastating for financial asset prices.
So if I were you, I would watch, wait, and prepare.