Quantitative Easing Hits the Bond Market

Bill Fleckenstein MSN Money November 22, 2010

The second round of quantitative easing has received a chilly reception. The markets seem to realize that printing money won't solve our problems.

For those who thought Europe's financial troubles were behind it, the last two weeks have proven otherwise.

The chess match concerning Ireland, Greece, the European Central Bank and others continues, and it seems the powers that be in the European community want the Irish to "take one for the team" by agreeing to be bailed out.

What are the eurozone countries?

Also, if Ireland calms down, perhaps the reverberations won't make it to Portugal, Spain or Italy. Bonfire of the currencies All of that is most likely wishful thinking.

The intractable issue of how to get all the disparate (and now largely insolvent) eurozone countries to pull on the same oar during tough economic times has always been the currency's Achilles' heel.

It is difficult to see how the European Union nations can collectively manage their way through this crisis -- apart from printing money -- since all the options they have are Draconian. (They can't even deal with the problems of Greece, much less bigger and better-run countries.)Msn.Video.createWidget('PlayerAd1Container', 'PlayerAd', 300, 213, {"configCsid": "MSNmoney", "configName": "player-money-articles-16x9", "player.vcq": "videoByUuids.aspx?uuids=f08eb512-df7f-4f73-9e45-154a9acbaeeb,e736f91a-bc25-413b-bc37-3d63b57e7b1f,6d9bccb2-822b-4cc9-bddd-b729f52f6500,04ac8d6a-f443-4012-b9d2-bcf8db09d878,d0b774c9-369f-454c-9000-a6fc217edaf7,721c2d66-970b-4d44-9bd2-ec7f82d07bd8,94658107-ee72-45a9-924d-225ae662750f,008a3976-9852-4064-b48c-417b39f9edf5", "player.fr": "iv2_en-us_money_article_16x9-investing-contrarianchronicles"}, 'PlayerAd1');Msn.Video.createWidget('Gallery4Container', 'Gallery', 304, 150, {"configCsid": "MSNmoney", "configName": "gallery-money-articles", "gallery.linkbackLocation": "bottom_left", "gallery.numColsGrid": "3", "gallery.categoryRequests": "videoByUuids.aspx?uuids=f08eb512-df7f-4f73-9e45-154a9acbaeeb,e736f91a-bc25-413b-bc37-3d63b57e7b1f,6d9bccb2-822b-4cc9-bddd-b729f52f6500,04ac8d6a-f443-4012-b9d2-bcf8db09d878,d0b774c9-369f-454c-9000-a6fc217edaf7,721c2d66-970b-4d44-9bd2-ec7f82d07bd8,94658107-ee72-45a9-924d-225ae662750f,008a3976-9852-4064-b48c-417b39f9edf5;videoByTag.aspx%3Ftag%3Dmoney_dispatch%26ns%3DMSNmoney_Gallery%26mk%3Dus%26vs%3D1;videoByTag.aspx%3Ftag%3Dbest%2520of%2520money%26ns%3DMSNmoney_Gallery%26mk%3Dus%26vs%3D1"}, 'Gallery4');The massive flaws of the euro (despite the attempts by Jean-Claude Trichet, the president of the European Central Bank, to be semi-responsible) are perhaps the main reason there is still relatively steady demand for the dollar.

(Of course, the yen is no better than the euro, which also helps prop up the dollar.) That sinking feeling While our currency continues to hang in there, warts and all, it is starting to be another story entirely for our debt. The latter has seen a fair amount of carnage in the two weeks since the Federal Reserve announced a second round of quantitative easing, that monetary stimulus effort now well-known as QE2.

While many (including, I think, the people who run the place) regard the Fed as omnipotent, the action in Treasurys has been a demonstration of the power of the market. The Fed may be bigger than certain small markets -- and even that is debatable -- but it is not bigger than the bond market.

If the weakness we have seen continues and printing more money doesn't work (i.e., if it drives yields lower), bond prices could tank. That means higher interest rates, which is trouble for stocks; thus, financial assets could really suffer.

In any case, given the fallout we have already seen from QE2, including an unusual amount of criticism directed toward the Fed, we are in the early innings of the funding crisis (which I have discussed many times), though we don't know the rate at which it will play out from here.

Those with a bent toward technical analysis could make a pretty good case that 10-year Treasury rates have formed an inverse (i.e., upside down) head-and-shoulders pattern, which signals that rates are headed higher. On the other hand, with Fed chief Ben Bernanke determined to buy $600 billion worth of bonds, if the Federal Reserve shifts its target along the curve, anyone betting that bonds will fall could easily find prices going against them in the short term. The little printing press that couldn't Nonetheless, so far it looks as though the news of QE2 has led to aggressive selling in the fixed-income market and, to some degree, the stock market and commodities as well.

It's far too early to tell whether that is just noise or if it signals the end of the move in stocks and bonds. (But it does look to me like the bond market is starting to try to take away the printing press from the Fed.)

However, I certainly don't believe it is the end of the move in precious metals, even though they have been thumped pretty hard lately.

As noted earlier, the world's confetti (aka currencies) is a mess in search of a solution.

Precious metals -- in back-to-the-future fashion -- may help resolve currency turmoil, as more and more people contemplate the advantages of a return to some form of the gold standard. (See "Who needs dollars when we have gold?") If it is broke, maybe you should fix it Along that line, my good friend James Grant wrote an excellent piece for the editorial pages of the Nov. 14 New York Times print edition. Headlined "How to make the dollar sound again: In gold we trust," the piece appeared on the Times' website Nov. 13.

As I pointed out last week regarding the World Bank chief Robert Zoellick's call for monetary reform published in the Financial Times (registration required), when thoughtful people make cogent cases for the elegant, self-correcting nature of the gold standard, the rest of the world, which is in search of an answer, will be forced to give such proposals due consideration.

Obviously, the permabears won't count here, but not everyone is a pathological gold hater.

At the time of publication, Bill Fleckenstein owned gold.More from MSN Money

Who needs dollars when we have gold?Get ready for a wild ride in 2011Bernanke's latest folly will cost usHow to invest for the next bubbleThe Fed's clear goal: Inflation

Rate this Article Click on one of the stars below to rate this article from 1 (lowest) to 5 (highest). LowThank you for rating.UGR('ratCntrl')High var avgRating=0;avgRating=7.656652; if(avgRating!=0){avgRating=avgRating/2;avgRating=Math.round(avgRating*100)/100;var sDisplayText="Average rating: " + avgRating + " from ";var usersCount=233;sDisplayText = sDisplayText + usersCount;if (usersCount==1)sDisplayText=sDisplayText + " user";else sDisplayText=sDisplayText + " users";avgRatingElem=document.getElementById("averageRating");avgRatingElem.innerText=sDisplayText;} View all top-rated articlesE-mail us your comments on this article Discuss in a message board MSN Money InsightNew Investor CenterMarket DispatchesJubak's JournalTop Stocks blogCompany FocusContrarian ChroniclesSmart Spending blogFast AnswersDecision CentersStart InvestingMutual FundsFind Hot StocksSimple StrategiesPower ToolsInvesting for IncomeReal Estate InvestingRecent Contrarian Chronicles ArticlesWho needs dollars when we have gold? 11/12/2010Bernanke's latest folly will cost us 11/05/2010The Fed's clear goal: Inflation 10/29/2010More . . .Contrarian ChroniclesAbout Contrarian ChroniclesLearn the Contrarian Chronicles lingoSubscribe to Market Rap on Fleckenstein CapitalFund data provided by Morningstar, Inc. © 2009. All rights reserved.StockScouter data provided by Gradient Analytics, Inc.Quotes supplied by Interactive Data.MSN Money's editorial goal is to provide a forum for personal finance and investment ideas. Our articles, columns, message board posts and other features should not be construed as investment advice, nor does their appearance imply an endorsement by Microsoft of any specific security or trading strategy. An investor's best course of action must be based on individual circumstances.Msn.Video.createWidget('Gallery8Container', 'Gallery', 500, 230, {"configCsid": "MSNmoney", "configName": "gallery-money-article-site-wide"}, 'Gallery8'); 3CommentsNewestOldestBestWorstControversialCniht58 minutes ago

While I agree we need to end the current system as you do Mr. Fleckenstein, I offer a word of caution.

Never underestimate a Central Banker's ability to print money, and never underestimate a Politician's ability to spend it.

I thought the whole system should have failed years ago. However, the above keeps getting in the way.

0 0ReportSpamgoodluckgary4 hours ago

Yes, I agree that shutting down the current fiat system and returning to a gold standard may possibly restore some normalcy to economics. For example, allowing people to actually save money in a bank account and earn real int-

erest. However, I have two questions. First, is this to be

done before or after we monetize our monstrous debt?

Second, at what figure do we set gold if this is to be done?

Any angle attempted to cut this pie is going to make for a

rough ride. 39+ years of fiat currency cannot be easily switched off, right?

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