Don't Fight The Fed

by Larry Levin

There are many well-known phrases in the trading pits and two of the most familiar are certainly "don't fight the Fed," and "never fight the tape." Ignoring these warnings can be detrimental to one's wealth. But what happens when the Fed fights the tape? That's what is happening right now as the Fed pumps copious amounts of cash into the banking system and slashes rates in a bear market...that may have just begun.

In the chart below you will see the days where Fed interventions, and other government actions, were employed to keep the market from trading below its "line in the sand. "Whether one agrees with the size of these massive interventions is now a moot point: what's done is done. Given this size, however, one must wonder "what happens if the market dives below 'the line in the sand?'"

If that line is breached, the Fed’s balance sheet will be in tatters and it will have learned the meaning of "never fight the tape." The government, on the other hand, is incapable of learning anything.



1) (Jan 22nd) Fed announces emergency 75-basis point rate cut before markets open - just one week prior to regularly scheduled meeting.

2) (Jan 23rd) First announcement of coordinated bailout plan, backed by government, to save MBIA and AMBAC. The miraculous timing saved the emergency rate cut from being overlooked.

3) (Jan 30th) The Fed slashes rates another 50-basis points.

4) (Jan 31st) MBIA announces new funding by somehow avoiding a rating cut form S&P and Moody's. The miraculous timing again saves the 2nd rate cut from being overlooked.

5) (Feb 25th) The Gasparino Rally: MBIA & AMBAC have ratings reaffirmed by agencies, but are still on credit watch. The intent of sparking a major rally to new swing highs fails in a few short days.

6) (March 4th) "Blue Horseshoe Loves Anacot Steel" rally caused again by Mr. Gasparino. Another "well timed" rumor that was able to reverse a 2% slide. Later, NY (then) Governor Elliot Spitzer said on CNBC that the new funding for MBI & ABK "could never have happened were it not for the help/support of the Fed and the Treasury." Translation: if the government did not intervene again by stopping a rating downgrade for these firms, it would never have happened. The goose higher, however, was short lived.

7) (March 11th) The Fed announces another $200-billion liquidity injection. Once again, the relief rally is short lived.

8) (March 13th) The market is dropping AGAIN, so this time a congressman enters the fray to stem the slide: Barney Frank announces his intention to allow the FHA to buy up to approximately $300-billion of foreclosed homes.

9) (March 17th) The interventionist rallies are now shorter in duration. The market is back to the January low, so the Fed brings out the big guns again announcing another emergency interest rate cut AND a change in policy: the Fed will now lend directly to non-depository banks (Lehman, Goldman, Citibank, etc). The Fed also announces a $30-billion bailout of Bear Stearns, guaranteeing NO RISK for J.P. Morgan's acquisition of BSC.

10) (March 18th) The Fed slashes interest rates AGAIN - another 75-basis points. The cacophony of calls for the Fed to directly buy all subprime and Alt-A loans in the entire country is now growing at an alarming rate.

11)(March 20th) More bad news is slamming the early market...until another "well timed" announcement hits the tape on a light volume trading day. It announced its first TSLF auction for April 3rd of $75-billion (28-days of course) with a twist: The Fed will now accept mortgage-backed securities, including collateralized mortgage obligations (or CMOs), as collateral in this first auction. In other words, the Fed is accepting more and more junk as collateral - releasing the details ever so slowly so it doesn't upset anyone.

12) (Sometime soon) The Fed announces it will now accept "a wink and a nod" as collateral for 720-day swaps for garbage.

What happens if the ratings agencies cut the brokers ratings, even though they can now borrow directly from the Fed? What happens if Moody's or S&P cuts the rating of an insurance firm that is in trouble, like FGIC or ABK? Since it would be very bad for the stock market, I am SURE it will happen during a weekend or a holiday. Wouldn't that be "well timed" but in another way - to keep the market from falling under normal circumstances, rather than the "well timed" events mentioned above that were intended to spark a rally?

Real Time Trading Signals*for

Trade Date: 3/20/08

E-Mini S&P Trades*
(before fees and commissions):

1) B/away sell @ 8:35am at 1302.50 = +1.75 & +6.00

2) FT buy @ 9:10am at 1308.50 = +3.50 (1 lot)

3) VA buy @ 10:35am at 1314.50 = -2.00 (1 lot)

4) OTF buy @ 10:45am at 1311.50 = -1.25 (1 lot)

5) OTF sell @ 12:00pm at 1311.50 = b/e & b/e...+8.00 points

E-Mini Russell Trades*
(before fees and commissions):

1) Buy @ 8:50am at 665.7 = +3.5 (1 lot)

2) Buy @ 10:36am at 675.2 = +.4 (1 lot)

3) Sell @ 11:00am at 673.4 = b/e (1 lot)

4) Sell @ 11:16am at 673.2 = -1.1 & -1.1

5) Sell @ 12:27pm at 672.4 = b/e (1 lot)...+$170


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