Ben Bernanke and The Court of The Crimson King

The yellow jester does not play

But gentle pulls the strings

And smiles as the puppets dance

In the court of the crimson king (King Crimson, 1969)

In a year where unemployment hit two digits and stayed there for months my portfolio, as minimal as it stands, went up through the roof. Rational explanations exist for this. Our government spent most of 2009 urinating on our national currency and stocks are a dollar-denominated asset. Cheap dollars make expensive stocks. If Huey Long were ever President, we’d just print our way to infinite national wealth. It’s a good thing no one in DC advocates on behalf of that.

Rational explanations bore people, so instead we get the conspiracy theories worthy of a RonPaulistinian online meet-up session. Blogs speak indignantly of a “plunge protection team” or a “President’s working group” that carpet bombs the market and buys up the index futures any time they drop too precipitously. ZeroHedge.com describes this trading action in a post entitled “This Is What A Perfectly Inefficient Market Looks Like – $9 Billion ESH0 Gobbled Up In Minutes.”

No better way to spike the market with no ETF flows than to gun ES volume. And we mean VOLUME. And the supreme irony: Goldman trader commentary – “This rally seems futures driven. Over $9BN of ESH0 exposure has traded in the market place over the last 10 minutes. We have zero ETF flow on the move higher…just more of what we’ve seen over the past 2 weeks.” Yes Goldman, we agree. And you know better than most.

Recent events make this whole trading scenario look even more ludicrous. Prior to the fit colliding with the shan in October 2008, institutional banks held $B 23 in index futures. These positions acquitted themselves comparably to the three Roman Legions trapped in The Teutoberg Forest. The banks precipitously abandoned these futures until they collectively held only $B 11 by June 2009. (HT: Zerohedge.com)

But since then, the big banks have been carpet bombing index futures. Their holdings have climbed back up to $B 23. This usually involves a series of late afternoon and afterhours buy trades on days when the vast majority of traders have sold out positions in individual marketed securities and volume has slumped on the depressing news. At that point, the whales show up and $B 9 of some index future get snapped up within minutes.

The market responds as if it were elastic rubber, and snaps rapidly back from negative levels. It looks like some Deus ex Machina has arrived to bail out the market, the economy and President Barack Obama’s political boats along with it. Positing this as a conspiracy theory is no more illogical than what Ron Paul and Maxine Waters typically ask Fed Chair Ben Bernanke during a typical hearing before Congress.

It’s just that it would be equally wrong. Barack Obama is a skilled politician, morally capable of anything. However, he can’t make Goldman-Sachs buy a slumping index in return for favorable regulation. GS, JP Morgan, and the rest of the so-called “Plunge Protection Team” get manipulated by someone far more nefarious. The seemingly meek and mild Ben Bernanke controls them the way a New Orleans pimp runs his street harlots.

Ben Bernanke has kept market interest rates asymptotically close to the X-axis. Cash reserves earn no return in a ZIRP environment. It quite literally burns a hole in Jamie Dimon’s well-seamed suit pockets.

The aggressive Fed purchases of toxic assets take poisonous MBS notes and other such junk off of Mr. Dimon’s books. But they fill those books up with dollars; the new garbage given Bernanke’s full-bore expansion of the money supply. So JP Morgan eats T-Bills the way Popeye eats his spinach up to a satiation point. Then the mega-bank still has mega-cash which declines in value every hour it sits in the cyber-vault.

Thus, once the T-Bills are bought up beyond any rational limit, JP Morgan, GS et alia, search the markets far and wide for any semblance of a positive return. With no private investment, record insider selling, and a perpetually contracting global economy, there are no logical business plays. This forces the major institutional investors to get creative and park all this money where it can actually perform.

So the following starts to happen on days where Wall Street cares too much about what happens in Athens. Traders trading on economic news start trading out. Traders trading on market action start panicking and sell out as well. Carnage begins to follow and the index numbers get lower. The cash-laden large investment houses watch their probabilistic models for an oversold signal.

Upon receipt of this signal, the gunning, the jamming and the bombing runs begin. No particular stock, sector or level of risk is favored. The big boys swallow the indexes whole with the table manners of an emaciated Tarbosaur.

At the end of this trading action, the markets cut their loses, the political leaders avoid having to address poor market performance and the broker-dealers all rake in commissions. The pattern is all very convenient as systemic risk has been all but vanquished. What could possibly go wrong?

We’ll leave that question up to Ben Bernanke. He is in charge of the interest rates, in charge of the money supply and controls the near-term destiny of the major banking houses as they fill up on index futures. He can smile his harmless smile and only occasionally threaten a good, stiff rate hike to whip the recalcitrant pessimist back into line.

Meanwhile, the people who don’t believe in silly conspiracy theories relax. Ben Bernanke grows into the role of the quiet man wielding power both subtle and irresistible…

The purple piper plays his tune,

The choir softly sing;

Three lullabies in an ancient tongue,

For the court of the crimson king.