There are a lot of questions out there regarding POMO, what it is, what is does, its effects, and most importantly to me, can I profit from it. So I did some research from the FED's site, Safehaven and Cantor Fitzgerald and aggregated these thoughts and articles into a post. It was an eye opener for me.
What is POMO (Permanent Open Market Operations)
(From the FED). "The purchase or sale of Treasury securities on an outright basis adds or drains reserves available in the banking system. Such transactions are arranged on a routine basis to offset other changes in the Federal Reserve’s balance sheet in conjunction with efforts to maintain conditions in the market for reserves consistent with the federal funds target rate set by the Federal Open Market Committee (FOMC). "
Open Market Operations
Open market operation refers to Fed’s purchases and sales of bonds issued by the US
treasury. These transactions are with banks, public, and firms. When the Fed buys bonds
in the bond markets it pays for the bond by creating new Bank deposits at the Fed. These
new Bank deposits at the Fed add to banks excess reserves, and can therefore form the basis of a multiple expansion of the money supply through new loan creation by banks.
What is QE?
(From Chris Mack http://www.safehaven.com/) "QE, or more simply known as money printing, is a dilution transaction similar to issuing more shares for a stock. The dilution has two primary affects: a decrease in the value of the initial shares and a redistribution of wealth from the original owners to the new owners.
The most significant difference between stock dilution and currency dilution i.e. QE is of course that publicly traded companies tend to use the funds raised through dilution to add value by investing those funds – whereas governments don't add value by QE."
What is the Purpose of QE?
In the case of QE2, $900 billion will be diluted to purchase US treasuries so the primary benefactor of the QE will be the U.S. federal government and the financial institutions selling that debt. However, capital flows can rarely be controlled and the newly created money will find its way into other markets and asset classes.
Interestingly, the $100 billion per month figure that has been mentioned as the target rate for QE is almost exactly what is needed to roll over maturing treasuries coming due – so it could be argued that the plan is to effectively finance the U.S. federal debt which would eventually lead to a complete monetization of the treasury market. Supporting this argument is the recent projection made by ZeroHedge that the Federal Reserve will own more treasuries than China by the end of November.
How Does QE2 Size Compare to Other Markets ( From Bob, This is important)
In an attempt to measure the above affects, we can compare the size of the QE plan to the size of several markets.
Percent of Market
|Diluted value of
$900B entering market
|US Federal Debt
If the QE funds went into the currency market, its value would fall in half. However, $900 billion is roughly 6 percent of U.S. federal debt. Inflation is defined by the growth in the money supply. If using M2, the QE plan would dilute the money supply by 10 percent. $900 billion represents 36% of the world's gold supply, so an equivalent move upward in price could be seen if the money finds its way into the gold market. QE is 37 times the size of the world's estimated silver supply so a flow of capital into the silver market could be explosive (see more here).
QE2 Projected to See Inflation Rise by 10-20%!
A dollar on November 1st is now worth 92 cents if measured in treasuries or 91 cents if measured with the money supply. It can be seen that inflation as measured by the growth in money supply is projected to increase by 10 to 20 percent on an annualized basis (see more here).
The result will be a double digit real negative interest rate and a carry trade opportunity to sell treasuries and other U.S. dollar secured paper at a cost of near 0 percent while accumulating real assets such as precious metals and other resources that cannot be diluted."
The gold, silver, dollar markets are the most sensitive to the capital flows and where we can find the best bang for our speculation.
There is a story floating out there that Goldman Sachs has been accumulating Precious metals for a long time and at the same time you have JP Morgan and HSBC selling naked short. I cannot help to wonder when Goldman sees the tipping point and force these guys to cover and bankrupt them. They have been known to do this to their competitors.
The conclusion was the stunner for me. The banks get to use my money to accumulate hard assets and stick me with the tax bill because it is being laundered through government instead of direct infusion to the private market.
This simply reinforces in my mind, of my course of action in regards of owning hard assets and hard asset producers. We may be digesting some sell the news in the markets after the QE announcement, but I intend to continue to scale in. If you are long the market, start paying very close attention to margin compression, as it will exceed end user sales growth, thus collapsing profits and cash flows.
Also an interesting read on the effect of QE from a different angle but the same conclusion.
http://danielamerman.com/articles/Monetize1.htm I know he is pitching something, but the article is extremely well written.
Leisa here: Shout out to our Yazzer who is running in the Richmond Marathon today…