The Hussman Report

 Outside the Oval / The Case Against the Fed

The Case against the Fed

Ever since the Bear Stearns bailout, I've been insistent that the Federal Reserve is increasingly operating outside of its statutory boundaries. As I noted in the March 31, 2008 weekly comment (What Congress and Investors Should Understand about the Bear Stearns Deal):

"The clear historical role of the Federal Reserve has been to manage the composition of Federal liabilities (by varying the mix of Treasury securities and monetary base - currency and bank reserves - held by the public). The recent transaction is a dangerous break from that role, in which unelected bureaucrats are committing public funds to facilitate private business transactions and selectively defend the holders of corporate securities. Only Congress has the Constitutional right, by the representative will of the people, to commit public funds. The Bear Stearns deal is a dangerous precedent and a dilution of Congressional prerogative."

My concerns here have nothing to do with the direction of the stock market. Ensuring the legality of Fed actions is not a Democratic issue, a Republican issue or a Tea Party issue. Rather, it is about whether we want America to function as a representative democracy. We hear a lot about the risk of "politicizing" the Fed, as if it should somehow operate outside of Constitutional checks and balances. This idea is insane. Reserving the appropriation of public funds to Congress, and by extension to the will of the American people, is central to the meaning of democracy. There is clearly a mindless carnival of circus clowns on financial television that is perfectly willing to look the other way as long as the Fed encourages risk and bails out reckless behavior. We should recognize what we stand to lose.

Market Climate

As of last week, the Market Climate for stocks remained characterized by an overvalued, overbought, overbullish, rising yields conformation that has historically been hostile for stocks. As noted above, we would be likely to take a more constructive position after clearing some combination of these factors, if it was coupled with a further improvement of various leading economic measures (Philly Fed was a start, but the overall set of measures is still negative and mixed). A constructive position, given current valuations, would most likely be limited to covering a portion of our short call positions, leaving most or all of our put option defenses in place. A significant improvement in valuations, followed by a firming of market internals, would give us more latitude for larger exposures to market fluctuations. For now, both Strategic Growth and Strategic International Equity remain tightly hedged. In bonds, the Market Climate remains characterized by unfavorable yield levels and rising yield trends. Strategic Total Return remains strongly defensive, with a duration of less than one year, and only about 4% in bond market alternatives such as precious metals, foreign currencies and utility shares.