My recent post Via Mundi (an awkward attempt by me to write “The Way of the World” in my rusty Latin) generated a lot of positive emails. I just got this one this morning that the author allowed me to share. The italics and boldface emphasis are my own:
I think it would be interesting to discuss how exactly the money made available by the Fed (and other central banks) actually reaches the market…
For example: how about buy backs? If the Fed gives free money to banks, they are not going to use it to lend money to average Joe to buy a car because that is a non-lucrative/risky business.
More likely the commercial banks will lend that Fed money to corporations like Apple, Amazon, etc., and also to smaller crappier corporations.
These corporations will take the money saying they want to use it for some AI projects or new robots, more shops, more hires, whatever.
But then they will actually use it to buy back their own shares on the open market, basically recovering their market capitalization losses that way.
Obviously the Fed knows this, they do it because the assumption is: large market capitalization = safer corporation = more people hired =more business etc.
You may disagree, I may also disagree, but that is the Fed’s logic.
Also the Fed buying directly corporate bonds may help the whole process. It is unclear if the Fed is also buying stocks (un)directly on the open market, maybe through investment banks or certain funds that may have access to their lines of credit.
We also know that some foreign central banks (e.g. Japan and Switzerland) are MASSIVE BUYERS of US Stocks.
So it’s all combined together: it’s a massive system designed to buy and prop up stocks, no doubts about it, but the way actually happens is what is interesting, i.e. the plumbing.
Ironically enough, I think most hedge funds are not buying (in fact they are probably the sellers that started the route earlier this year).
One side thing about corporations buying back their own shares and propping themselves up on their own: I still wonder what send TSLA up 4x times back in Dec 2019…
I wonder if Elon Musk figured out that the only way to send his shares up was to figure out some scheme to buy his own stocks (legally of course, through some private fund or proxy…).
Because TSLA is a shitty company and their cars are so expensive it makes me vomit, but of course a lot of Americans love them (I know you have one).
Texas was full of Teslas, everybody had one (usually Tesla 3), that was so ridiculous and pathetic at the same time, because Teslas are not worth 1/2 of their asking price.
I’d rather buy a Porsche, an Audi or a Mercedes, a BMW, real car you know? Not that shit named Tesla.
The destiny of Tesla was to go bankrupt and disappear (or bought out by some other car maker), because Elon Musk doesn’t know how to make a real car maker business, he just knows how to do “gadget-car” maker business (he may be South African but he has learned quickly what sells in America…).
Anyway long story short, TSLA, the stock of a shitty, doomed company, magically, in December 2019, against all odds, became worth almost 900 dollars!!!!
How is that even possible?
Buying their own shares, that is how is possible…
Didn’t Elon Musk said he wanted to take back to private his shitty company? guess what? he can do that by buying back his own shares… (then later, he tweets TSLA price is too high… maybe he feels bad about all the retail suckers investors buying TSLA at 900, falling prey to his personal buyback/prop-up scheme…).
So going back to the Fed, my point with this story is: the Fed is putting the money on the table, but how does that money exactly goes back into the system and props up the stocks?
Although it’s hard to know for sure, a large part of the buying is probably made by US corporations, because doing so removes their need to pay dividends to stockholders (they offer a stock price increase in lieu of a dividend, preventing a sell-off of their shares from hedge funds and other institutional investors – that is what happened back earlier this year when the world seem doomed because of covid19 – so the hedge funds are your friends, if you wanna put it that way, they think, like you, like me, that corporate profits will crash in 2020 and beyond, and that stocks should be sold).
Summing up: the Fed gives the money to the corporations through the banks, the corporations buy back their own stocks at discounted prices after the crash, starting a rally that draws in many other investors, pushing prices even higher, at that point everybody made a lot of money:
- the corporations making profits on their own stocks
- the investors that have money invested in the stock of the corporations (funds, retail investors, etc.)
- the banks that loaned the money to the corporations and will get it back with interest
- the Fed that loaned the money to the banks at zero/near zero interest