Conspiracy Theories?
Rev Shark looks askance at the many theories floating around about Government intervention in the Equity and Energy markets: Debunking Conspiracy Theories:
"With the election just a week off, there is a lot of talk in certain quarters about how the market is being "manipulated" for political gain. The theory is that the Republicans are driving the market up in order to give the impression that economic conditions are good, which would in turn cause voters to support the incumbent party. That certainly explains the market action and has a great appeal to the conspiracy theorists but is it realistic? I have a great aversion to the idea of conspiracies simply because I don't believe that its possible for a large number of politicians and bureaucrats with big egos to keep anything a secret."
The most cogent analysis I have seen about the sudden drop in Energy prices comes via Tim Iacono's Friends in High Places? Iacono's argument is backed by the details of how and when the widely followed Goldman Sachs Commodities Index (GSCI)dropped its gasoline exposure in half. What was originally made out to be a minor shift in the types of gasoline blends turned out to be a major reduction in exposure for the GSCI -- and done in a rather surreptitious manner.
Goldman made a little change in their commodities index, and that caused $6 billion in unleaded gasoline futures to be dumped onto the NYMEX. Read it and decide for yourself how "improbable" a manipulation of the energy markets actually is.
Quite frankly, while I detest the intereference in the political process, I must admit to admiring the ingenuity and audacity of Goldman Sachs. As far as I can tell, either it was a brilliant ploy to impact the energy markets two months before elections, or the index is run by a bunch of naive, ham-fisted idiots, blissfully unaware of what they wrought so close to mid-term elections. So my own answer about energy manipulation turns on the question whether Goldman Sachs is a sharp collection of rocket scientists/traders, or a bunch-o-morons.
As to manipulations in the equity markets, I am undecided about that. I will note that several people far more experienced than I -- and far less cycnical, too -- have been commenting about the "Preternatural bid underneath." I may have to assemble some of the more cogent commentary along those lines.
Of course, the Fed does control money supply, and while it is understandable their providing additional liquidity during the rate tightening phase (i.e, more money supply as rates go higher) the most recent firehose of cash hitting the past few months since the pause is a bit harder to rationalize . . .
Tuesday, October 31, 2006 | 03:33 PM | Permalink
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Gives a whole new meaning to the term "prop desk."
Posted by: angryinch | Oct 31, 2006 4:04:02 PM
Barry, who's talking about the "preternatural bid underneath?" I'd love to read their takes on the situation.
Posted by: David Yaseen | Oct 31, 2006 4:09:14 PM
it's certainly felt like a different market since GS has been given a key to the candy store.
Posted by: emd | Oct 31, 2006 4:23:10 PM
In anything so noisy as global equities markets, it is so easy for our advanced primate brains to imagine patterns that aren't there. After all, when it came making a predecessor into an ancestor, it was better to be a little too eager to detect a pattern that said "tiger" or "enemy warrior" or even "mating chance" than to be not eager enough.
Like Jody Foster in "Contact" listening for patterns in the noise of washing machines. Still, in the end, she did find her aliens.
Every time that Barry has said "don't short yet, hedgies sitting on too much cash", I did wonder where that cash came from. Profits are high and re-investment opportunities not so good, so lots of cash could flow to the hedgies for perfectly innocent reasons. But "could" does not prove "did"
Pure speculation: If I were the current administration, asking the Saudis, who are all but drowning in cash, to send a bit of it into US equities for a few months would cross my mind. If I were Putin and I were as bright as he seems, I can think of a few good reasons to do it without even being asked.
{End of pure speculation}
More rational question: If money were being fed into equities markets for the elections, where would we find the tracks? If have read rumors about the "plunge protection team", but they were just rumors.
Posted by: Kevin_r | Oct 31, 2006 4:50:32 PM
Look no further than today's action on the YM (Dow) futures. Spends all day in the red, except for the last half hour when it all of a sudden rallies strong on absolutely no news. With the index less than a 100 points from all-time highs, what's the rush to buy? There is no fundamental reason why a sane person would want to invest right at the moment of the economy slipping into a recession. Aside from the tech-mania, I've never seen such an irrational market.
Posted by: Ricardo | Oct 31, 2006 4:53:42 PM
I have a great aversion to the idea of conspiracies simply because I don't believe that its possible for a large number of politicians and bureaucrats with big egos to keep anything a secret.
I completely agree with this in general. If there is manipulation at work, it would have to be something that could be handled by a very small team, on which each member had powerful motivation to stay quiet, and with good natural cover. Some group with fairly low transparency to start with.
Someone with a Russian or Arabic accent fronting up at my local brokerage with a dump truck full of cash would make the secret a bit hard to keep.
Posted by: Kevin_r | Oct 31, 2006 4:55:10 PM
On the other hand, the anti-conspiracy conspiracy theory:
Obviously, if there is a conspiracy to pump up the market until the elections, the Republicans are the obvious beneficiaries. But who would benefit from simply spreading the rumor of such a conspiracy even though it did not exist?
It would be a great move by some shorter to convince the market that it was walking on the invisible gangplank from the last Indiana Jones movie and wait for the market to get half way across the chasm before it realized it was walking on air.
Posted by: Kevin_r | Oct 31, 2006 4:59:30 PM
Timing aside-- I believe if not mistaken that the GS commodity index has had no cap on oil as a % of its make-up, AS opposed to the Dows Commodity Index and Jim Rogers, which are/have been capped at 30% [i believe]. this has been why i have invested in those, to get more grain, base metals exposure etc--one can always supplement with OIH or XLE for more oil.
one explaination at any rate [being they realized that this over weighting was a mistake]
Posted by: CV | Oct 31, 2006 5:00:44 PM
Come on guys! The Russians?? Arabs?? You really for a minute think they have anything to do with this rally?
It's the top brokerages trading their own accounts up. Spitzer should investigate!!!
The fact of the matter is we are looking for conspiracies because it's so damn hard to explain this latest rally in terms of fundamentals or rational, logical modes.
This is a head-fake rally and a half and if you don't want to short, stay in cash and earn an easy 5%.
Posted by: Ricardo | Oct 31, 2006 5:00:52 PM
Rational expectation theories are too complex for most people to grasp. How can a majority of market participants all be influenced into moving in to relatively the same direction by a single change of a metric. That metric is The Fed Rate. It's easier for people to except that there is some rich fat cat of a power broker that is out to swindle the common man that caused the drop in prices and collected the rewards.
The "measured pace" of the fed rate was rationally expected by the market because market participants expected them to continue. So much so that they fully priced in 2 to 3 more rate hikes into the future. People talk about an efficient market pricing in all known information. Well it prices in more than just known information. It prices in the highest probability of information available. There was a high probability of more hikes in the future and markets priced them in. It is common knowledge that commodity prices and interest rates (to be specific the fed's rate of lending) typically move hand in hand. As rates move up commodity prices move up. Rate move up because they are used to combat inflation. Inflation of circulated money, not price inflation. Inflation of circulated money causes price inflation. Thus price inflation returns as rising prices. Rising commodity prices for one.
With 2 to 3 rate hikes priced into the markets Oil at @80 a barrel did not equal a Fed Rate of 5.25%. $80 oil was in anticipation that rates were going to be 5.75% to 6.0% within 2-3 meetings. the same can be said for most energy and metal prices. When the Fed announced a pause the markets digested that a pause in the rates had to erase the expectation for 2-3 more hikes. Just like P/E multiples for future earnings. You buy a stock not for their current earnings but what they will earn in the future. Eventually when earnings reaches your expectations of earnings. The price per share will be inline with present earnings. But at that point in time price will be higher because it will be expecting further growth. Until growth slows or reverses.
The drop in across the board demand for energy commodities was the result of lost expectation. And I say if the Fed decides to drop rates to protect against deflation, of money supply, not prices, you will thus see a further fall in commodity prices because expectation will be that current businesses and consumers are using money to pay down debts and streamline operations (cost of business or living). the expectation will be that money will be cheaper to borrow in the future when the Fed Rate bottoms so expansion plans will be sidelined until then. To see what I mean go look at the volumes in commercial paper and when the big spike in volume occurred. Not when the fed Rate bottomed because expectation was for the rate to fall below 1.0% back then. It was when the Fed announced that they would start raising rates. Expectation shifted and borrowing went through the roof.
Posted by: anderl | Oct 31, 2006 5:02:05 PM
There are a few obvious flaws with the conspiracy theories:
1. Goldman Sachs
The problem here is that Goldman Sachs is traditionally the biggest supporter of the Democrats on Wall Street. From an InvestmentNews.com article:
"Some Wall Street firms long have been in the Democratic camp in terms of the total amount of donations made by their employees. The Goldman Sachs Group Inc. of New York and its employees, for example, are the securities industry's top contributors to Democratic candidates so far in 2006, as they were in 2002. So far in the 2006 election cycle, the company and its employees donated $2.6 million to political candidates and committees, 60% of which went to Democrats."
With all of the Democrats there, is it really likely no one would have blown the whistle on the fact that they drove down gas prices merely to help the Republicans?
2. Stocks
The question that conspiracy theorists have to answer regarding stocks is why global equity markets are all heading higher. If this was just some Republican scheme to pump the Dow, then why are the FTSE and DAX over 6000, the Hang Seng over 18K, the Bombay Sensex at 13K, etc. If we weren't heading higher we would be conspicuous by our absence.
Excess global liquidity, a fair amount in the hands of hedge funds that have moved out of commodity plays and into equities, combined with a more optimistic global economic outlook than most people here have would seem the more likely explanation rather than believing that Karl Rove is behind everything that happens in the world.
Posted by: cornerkick | Oct 31, 2006 5:03:02 PM
can't help scratching my head with what appears to be almost unnatural oil price action. Huge selloff and no bounce? Bad mid east news nowhere to be found. Downward economic revisions are not bringing any real selling. Retail is That strong? Been at this game 10 plus years and my best idea is long GS!
Posted by: rosstock | Oct 31, 2006 5:08:34 PM
"Excess global liquidity, a fair amount in the hands of hedge funds that have moved out of commodity plays and into equities."
Cornerkick hit the nail on the head. Deep money that was sitting in commodities over the last x number of years exited leaving the performance chasers to but the top on commodities. That money had to be invested. No one other than Berkshire Hathaway and Bond investors are willing to sit on a measly 5% growth. They would have their clients fly to funds that take on greater risk and potentially greater reward. All that money poured into equities because there was value there. But because of rates were fair to high and the Fed was able to slow the economy and inflation of money down somewhat there was risk in investing in lower market capitalization companies who could not afford the high rate of borrowing and the high costs of materials relative to the environment 3-5 years prior, to expand their businesses. So those funds played it safe and put their money in the large caps and blue chips. Now what we are seeing in performance chasers and retail investors running their money into the large caps on the expectation that the market is going higher.
I should say that it may very well go higher from here as it can go lower. I really am not sure which way it will go. I will say that selling by the early birds that bought in back between July-August will want to take profits. That will more than likely increase volatility in the near term.
Posted by: anderl | Oct 31, 2006 5:15:29 PM
I've got just three words for you dude...! "Henry M. Paulson".
The Fearless Manatee Hunter,
Killer of the Gentle Sea Cow
Posted by: fearlessmanateehunter | Oct 31, 2006 5:17:38 PM
Gasoline futures being responsible for taking down the price of oil is the ultimate tail wagging the dog. While the GSCI component change certainly marginally affected the price of gasoline, most of the decline has been due to falling oil prices.
If someone can explain how selling gasoline futures affected the price of oil, maybe I'll listen, but until then this is just an example of the mind seeking a rational explanation for a seemingly irrational market rally.
Posted by: joe | Oct 31, 2006 5:20:22 PM
joe,
You beat me to the punch on the key point that I have not heard answered.
To expound on it just a little further. As you say, gas follows oil, not the reverse, but lets suppose that short term you could drive down just the price of gas by dumping gas futures like crazy from the GS index. Ok, so then why does oil go down with it in tandem. Not only that but when looking at the GS index while gas exposure was reduced oil exposure was increased. Thus if its as simple as the futures activity in the GS index driving the action in the price, then gas should have decreased but there should have been a bid under oil as they increased their exposure to oil by almost 1 percent more.
Granted the oil exposure increase was smaller than the gas exposure decrease but it still doesn't explain why this decrease in exposure to gas and increase in exposure to oil would drive down both oil and gas prices. This correlation discrepancy is never discussed. And the reason is because its logically inconsistent with the thesis of the conspiracy and therefore it is either overlooked or simply dismissed.
What say you Barry about how this could occur? If this is a gas index issue what explains the drop in the price of oil?
Posted by: Q-Ball | Oct 31, 2006 5:31:10 PM
Jeffrey Saut at Raymond James is certainly one of those folks who finds the market action unnatural and who has referenced the Goldman Sachs re-indexing. I think that Barry has referenced his work. He's definitely worth a listen. YOu can find him here: http://www.raymondjames.com/inv_strat.htm
Posted by: Leisa | Oct 31, 2006 5:35:50 PM
Funny you should mention the hidden hand. MSN Money speculated the same this morning:
We say "traders buying futures" assuming there is more than one trader making these buys, but some traders are actually talking about a "mysterious buyer" since the force of the buying is so narrowly targeted.
Posted by: Rich Lather | Oct 31, 2006 5:44:52 PM
As baffled as I am by the rally of the past few weeks, and although I wouldn't put it past this administration to manipulate the markets if they could (they would probably crow about it), there's one problem here -- the sheer size of the markets in question.
It's one thing to manipulate some lightly traded small-cap stock. It's another thing entirely to move a multi-trillion dollar market up day after day after day for months. There is an old urban legend about "the big boys" (whoever they are) stepping in and walking up the S&P futures on Black Monday, 1987. But that was one day, not three months.
No one has the capital, individually or collectively, to do this for this long. There is no line item in Goldman's budget (or the Federal Government's, for that matter) that provides a $1 trillion slush fund for the manipulation of the equity and energy markets.
There's only one party out there with that kind of money, obviously -- the Federal Reserve itself. So what you're asking us to believe is that Gentle Ben (at the behest of the White House) is printing money and then moving it directly into the futures markets.
Is this plausible?
Posted by: speedlet | Oct 31, 2006 6:05:35 PM
Speedlet,
I think it would only be possible if the market was ready to go up a bit anyway. It might take a lot less, especially if it was aimed and timed precisely, to boost and extend a rally and to prevent it from slipping back. If you got a bit of momentum going, others would hop on for the ride and do most of you work for you.
What would be impossible would be hold a large market far from where it wanted to be for any length of time.
For example, _if_ the Goldman-Sachs index rework did help bring down oil, that would only have been possible because oil was ready to come down anyway. If war with Iran had broken out the day after the index rework and the Persian Gulf oil flow all cut off or dear Kim had done something sufficiently stupid, oil would have soared past $100, GS or no GS.
Posted by: Kevin_r | Oct 31, 2006 6:13:19 PM
Someone here mentioned that the Plunge Protection Team is a rumor. That's not true. It absolutely exists, it is called the President's Working Group on Financial Markets. It was created after the 1987 crash, and was supposed to meet only in times of great crisis. Under Henry Paulson, the group has been meeting every 6 weeks.
I will say, I've been watching the markets every single day, and I agree that it's been acting weird. Markets do move in waves -- even healthy bull markets go up and down, and have healthy corrections as they ascend. We haven't had a single day with a greater than 1 percent downturn in months. On Friday, we got news that the US GDP was an abysmal 1.6 percent -- well below expectations. It would be only natural for the market to take a nice hit on this news. Any trader who knew ahead of time that that was going to be the number would have!
And yet, as was stated above, today, the market had a very negative trend. And suddenly, going into the bell, it snapped higher to close at almost even.
If you go to the website Minyanville, a lot of the "Professors" there -- very experienced traders, have noticed these "preternatural" upticks in market trading. These are huge volume block trades, all to the upside, the likes of which none of them -- and many have been trading for decades -- have ever seen before.
Now, there are two non-conspiracy explanations out there that I know of. One is that there is a record amount of short interest in the markets right now. So these huge upticks are shorts (who have been getting killed) covering on every downturn. I don't think this first explanation is very likely, because the downturns haven't been big enough for shorts to cover. Panic short covering happens during up-ticks, making them go higher -- not the other way around.
The second explanation is that foreign central banks, such as China and the Saudis, are buying U.S. indexes. Not at the behest of the Bush administration, but simply to hold up U.S. consumer confidence so that we keep consuming at such a rabid rate. The Chinese have had their fill of U.S. treasuries, so now they have moved on to U.S. securities.
The final possible explanation is that the Fed is reflating the U.S. economy by buying equities through foreign central banks. I don't know exactly how this would work, but the idea is that this isn't a political decision on the Fed's part -- it's a practical one. The Fed cannot have deflation -- not now, not ever -- given the U.S.'s current debt position. So they are using all means at their disposal to avert the dollar deflation that should be a natural by-product of globalization.
Posted by: Jason M | Oct 31, 2006 6:17:45 PM
Kevin r --
Thanks for your comments. I wonder, however -- even if the markets could be manipulated by one party (Goldman, for instance) wouldn't the profit motive kick in and cause them to sell shortly thereafter, defeating the purpose of the whole exercise?
After all, most -- if not all -- market manipulation schemes are about realizing a short-term profit, which require that the manipulator dump shares into the frenzy he has just created.
The manipulation we're talking about is about making political gains that would presumably have a long-term benefit somewhere down the road, in the form of legislation, political influence, etc. The problem is, on Wall Street, short-term gains trump long-term strategy every time. After all, managers are compensated based on their quarterly performance, not their political loyalty.
If Goldman were able to engineer a massive three-month rally, presumably they would feel enormous pressure to realize their paper profits, and they would start dumping assets -- causing a huge downdraft. So any manipulation of the market for political purposes would be self-defeating.
Which means that the only party that would be able to pull something like this off would be "not-for-profit", so to speak -- a wholly political entity, such as the White House..... or the Fed.
Posted by: speedlet | Oct 31, 2006 6:31:11 PM
The US stock market ismore and more a third world market: no matter want happensand what the news are, at the end of the day a misterious strong hand comes to put the market where it wants!!!
How long can this farse continue?
Posted by: Bullion | Oct 31, 2006 6:34:29 PM
"There's only one party out there with that kind of money, obviously -- the Federal Reserve itself. So what you're asking us to believe is that Gentle Ben . . . . . "
REPO's
http://www.bullandbearwise.com/FOMOChart.asp
POMO's
http://www.bullandbearwise.com/SOMAChart.asp
and another permanent injection made today that is not included in the above chart - for $1.430 Billion.
See the Fed site -
http://www.ny.frb.org/markets/pomo/display/index.cfm
Posted by: challo | Oct 31, 2006 6:57:56 PM
If you believe there is a PPT, and because Reagan signed some bill people now consider this nefarious organization and that they are able to stop market dumps, why didn't they stop small caps from cratering 40% in 1998 or the Naz 85% in 2000?
Something is ominously odd here and I'm wondering what is going on myself, although I tend to think a rather simple explanation exists, the Fed is NOT CAPABLE of propping up every stock market in the world. Today, every stock market in the world is going up. So, do we have a mass global conspiracy propping up $100 trillion in equity valuations?
Be real.
Posted by: BDG123 | Oct 31, 2006 7:41:21 PM
