Dow Jones Hits Record Highs, Thanks to... the Fed!

When the Dow Jones hit 14,000 pts, it reached its historic record of October 2007. A remarkable comeback after its low of 6,500 pts of March 9, 2009. So, then, the crisis is over?

But, in October 2007, it was already there! It was starting to burst. The subprime bubble had artificially inflated growth, and the first cracks were showing (New Century Financial Corporation default, two Bear Stearns hedge funds defaults, IKB’s bailout plan, Northern Rock’s bankruptcy, closing of two funds by BNP Baribas, profit warnings of many american banks). Real estate prices in the USA were starting to deflate in 2006 and, in the spring of 2007, the first ominous signs were starting to appear in the financial sector. The crisis will play in full on September 15, 2008, with the Lehman Brothers bankruptcy.

But, with the Dow Jones back at its historic peak, and even over it, what about the economy? It is certainly not back to its October 2007 level, far from it : unemployment has soared, food stamps beneficiaries have gone from 26.9 million to nearly 50 million people, trade deficit has plunged considerably, and growth is stagnant. And the future is under threat with a budget deficit that has exploded and a public debt that has gone from 38% to 74% of GDP (Zero Hedge).

So, who’s responsible for this miracle? The Fed! In October of 2007, the Fed’s interest rate was 4.75%. Ben Bernanke quickly brought it back to zero (exactly 0-0.25%) in December 2008, and has kept it there since. And he even stated he would keep it at that level for years to come. And, at the same time, he has entered in « quantitative easing » plans, QE1, QE2, and now QE3, to the tune of $85Bn a month, half of it going to the federal State (to finance its deficit), and the other half for the banks (to buy back mortgage-related debts).

So, where is all of this easy money going to go? Not in the economy, because there is no growth to speak of. Not in Treasury bonds, because they do not return anything. What’s left? Emerging countries, commodities and, foremost, the stock market. With all this money falling from Heaven, it’s as if Wall Street was winning the lottery every month... no wonder stocks are on the rise!

But, as in October 2007, we’re still in a crisis. A new element would be the sovereign debt crisis, but we’re still deep into the sequels of the subprime crisis (proof being that half of the Fed’s QE3 is going to the buying back of mortgage-related debt from banks). In reality, nothing has really been solved, but only kicked ahead with the help of State debt and the money printing press.

A time will come when the party will end and the Dow Jones will hit new records, but to the low side. Those who own stocks can sell them and buy some gold, this could make an awful lot of sense...