Take a fat red pen and circle June 30, 2011, on your calendar.
That’s the day QE2 ends. It’s the day the Fed stops creating debt/liquidity by purchasing U.S. Treasuries.
Don’t get me wrong; there will be a QE3… but not yet.
First, America needs to feel the pain. Without pain, there is no political will.
The current republican Congress likes to talk about cutting spending. They are even going to the brink with default rather than raise the debt ceiling. This Congress is more fiscally responsible than the 2008 Congress which voted down the bank bailout and caused the Dow Jones Industrial Average fell 900 points in a day.
There is no way they will go along with more bailouts unless their constituents have a change of heart.
And the only way voters will change is if they feel very real pain.
The only thing propping up this market for the past three years is the flood of money pumped out by Ben Bernanke.
Six out of ten leading indicators are bad: housing, jobs, manufacturing… and the other four will be getting worse.
In fact the leading indicators fell 0.3% in April and almost assuredly fell again in May. The four indicators that pointed to an expanding economy were the interest rate spread, consumer expectations, stock prices, and the real money supply.
It is true banks can borrow at zero percent and charge 4.5% on loans (or get 3.03% from the ten-year notes). So they will make money. But it should be noted that loan rates are falling. This spread is getting thinner.
Consumer confidence has reversed. It fell 5.2 points in May. Americans are paying off debt and hoarding cash.
The stock market will crash:
And it is true the real money supply has been expanding for several years.
But when QE2 ends in a few weeks, the money supply will tighten. This means the economy will get worse.
End of QEII
Ben Bernanke believes QE2 was a success. During his last trip to Capitol Hill, he said:
The conclusion that the second round was ineffective could be validated only if some thought this was a panacea. Relative to what we expected, and anticipated, the program was successful.
Bernanke has pointed to the rise in the stock market as evidence that the Fed’s bond purchases have been effective in boosting the demand for riskier assets, as it removes risk free assets from the market.
As I write this, the S&P 500 has recently out-performed Europe, most emerging markets, and most of Asia. This is as clear as it gets. Bernanke has pumped up the stock market for two years.
All good things must come to an end. This ends on June 30th. It is logical that the market will go down.
The scenario I see is one in which the market crashes over the next few months. I expect a flash crash of epic proportions as the majority of trades are now made by computers, and nothing was really changed after the last one.
When the S&P500 is down 33%-50%, the politicians and the money class will demand that “something be done” in the reprehensible idea that governments can fix the business cycle.
Then the preternatural Bernanke will wave his scepter and announce QEIII. This will blow out the shorts.
What You Should Buy
The action plan is to wait until there is a lot of blood on the trading screens, the politicians and Wall Street pundits are wailing and gnashing their teeth, and the prophets of doom are leading CNBC.
It is then you should go long in a big way.
So, you are selling stocks right now and building up a large grub stake. The question is, What do you buy when the great flash crash of 2011 happens?
The first thing to buy when everyone is running in panic is gold and gold stocks. In November 2008, I recommended four gold stocks that were sold off to extremes by over-leveraged hedge funds that were hit by margin calls.
Two of them went up 1500%. The other two went up more than 500%.
That’s how you beat the market…
You wait, you build cash, and you act with speed and courage when the time is right.