The European bank panic, not the Fed’s action, is sending a tidal wave of cash into the Treasury market, causing yields to crash. That sends a false signal which motivates (or forces) investors to sell equities and causes them to infer from the FOMC statement that the Fed expects severe economic weakness. The Fed did not intend that message, but their words and actions appear to have backfired in this case. The market is now reading them that way. We have long speculated that the day might come when a Fed action would cause the market to lose confidence, rather than gain it. That day has apparently arrived.
Both the meltup in Treasuries and the meltdown in stocks trigger forced liquidations, thereby causing a self reinforcing frenzy in both markets. The Fed’s operation Twist will do nothing whatsoever to mitigate these trends since the Fed will not be spending one cent to assist the Primary Dealers in absorbing massive amounts of new Treasury supply each month. Nor will it do anything to stem the run on European banks.
That run is causing the appearance of an accelerating bull market in Treasury bonds. But make no mistake. This is a panic, and it is causing massive dislocations in the financial system.
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