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Markets Know QE2 Is “Transitory”

Virtually all key liquidity indicators are negative as the markets hurtle toward the end of QE in a little over 3 weeks. Large domestic bank trading accounts, bank purchases of Treasuries and Agencies, and foreign central bank purchases of Treasuries and Agencies are all bearish. The indicator showing net cash flowing from money funds into the banking system is on the cusp of turning bearish.

These patterns continue to suggest that the market will be vulnerable to an even bigger decline than the one already under way once quantitative easing ends. The fact that there’s been some front running of the end of QE, and the fact that most people “know” that ending QE will be bearish, are not reasons to take a contrary stance and believe that the market won’t decline. Unless the money flows we are seeing now reverse, and I see no reason why they should, then the stock market should head lower. Liquidation of stocks may boost Treasuries for a while, but I expect that effect to be, in the immortal words of our dear leader, Fearless Ben, “transitory.”

Once the disaster I expect begins to unfold, Ben will start meddling in the market again. Primary Dealers have been buying MBS hand over fist, so my guess would be that they’re looking to unload it on the Fed in the not too distant future. They either know something or intend to strap this stuff to their belts and threaten to blow themselves up if the Fed doesn’t buy it from them.

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This article is the executive summary from the current Professional Edition Fed Report.

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