A Useful Leading Indicator?

We often see charts comparing the S&P 500 to the growth in the Federal Reserve’s balance sheet, or more specifically, to assets held by the Fed. There is undeniably a close correlation between the two, but it has struck us as not very useful as a “timing device”, or an early warning device if you will.

Recently we have come across a video of a presentation by Bob Murphy, in which he uses a slightly different comparison that might prove more useful in this respect. Instead of merely looking at Fed assets, he uses the total monetary base. Here is a chart comparing the monetary base to the S&P 500 Index since 2009:


1-Monetary Base vs SPXThe monetary base (red line) vs. the S&P 500 (blue line) – as can be seen, sometimes one or the other series leads, but in recent years the monetary base has been a leading indicator. It probably lagged the market in 2010/11 due to the fact that traders at the time bought stocks in anticipation of more monetary pumping – whereas nowadays the market appears to be reacting with a slight lag to changes in base money – click to enlarge.


Below is a chart that shows consolidated assets held by the Federal Reserve system for comparison. Since the Fed is currently reinvesting funds from MBS and treasuries that mature, its total asset base is basically flat-lining since the end of QE3. Obviously, all that can be gleaned from this fact is that the central bank is currently not actively pumping up the money supply. Currently money supply growth is therefore largely the result of commercial bank credit growth.


2-Fed AssetsAssets held by the Federal Reserve – flat-lining since the end of QE3. Interesting, but not useful as a short term leading indicator of the stock market – click to enlarge.


A Different Regime

The post 2008 monetary regime differs from the previous state of affairs due to the vast growth in central bank balance sheets and the associated growth in bank reserves. This has created a technical problem for central banks if they want to tighten monetary policy, as the Fed is planning to do.

In times past the Fed would either add or withdraw liquidity from the system by means of asset purchases, resp. sales, both of the temporary and occasionally the permanent variety (i.e., via repos and coupon passes), so as to keep the effective Fed Funds rate on target. It can no longer do this if it wants to keep the stock of assets it holds unchanged. Since selling off enough assets to return to the previous regime would collapse the money supply, it isn’t going to happen.

The Fed is primarily keeping control over the FF rate target by paying interest on bank reserves. This keeps the currently almost non-existent interbank lending market in catatonia, since there is no point in lending out excess reserves for less than one can get safely from the Fed. However, ever larger short term reverse repo operations are undertaken as well (we have previously discussed the vast surge in these transactions at year-end).

These reverse repos usually swell near month-end and especially near the end of a quarter. This seems to serve various purposes. Among these is apparently the desire to relieve collateral shortages/ delivery fails (which have increased due to QE removing a great many securities from the marketplace), but the Fed is presumably also employing these reverse repos as another way of exerting control over short term interest rates.

While the amount of assets held by the Fed doesn’t change on account of such operations (since the assets are only lent out, but continue to belong to the Fed), it seems the effect is reflected in monetary base statistics. This is illustrated by the chart below, which compares outstanding reverse repos to the monetary base. Spikes in reverse repos align quite closely with short term declines in the monetary base, even if the correlation is not perfect (as these are not the only factors influencing the base).


3-Monetary Base vs ReposThe monetary base vs. Fed reverse repos outstanding – click to enlarge.


Demand for Stocks Declines Around Quarter-End

One thing is clear: during the brief time periods when large reverse repo operations are undertaken, liquidity in the system temporarily decreases. The lead-lag relationship between the monetary base and the S&P 500 shown in the first chart seems to suggest that this does have an impact on the stock market.

How big an influence it really represents is however not certain, as there is another important reason why the demand for stocks tends to decline around the end of the quarter. As has recently been discussed at Bloomberg,  earnings season begins at the time as well, which forces companies to suspend stock buybacks for a few weeks.

Given the enormous size of buybacks in recent years (another new record high will likely be achieved this quarter), it is probably no surprise that the period during which buybacks are suspended also aligns closely with market weakness of late. Here is a chart derived from a Goldman Sachs research report illustrating this point:


4-buyback pauseStocks have been especially weak last quarter around the peak of the earnings season – click to enlarge.


According to GS analyst David Kostin, the influence of the “blackout period” is especially large at the moment, as other important groups of potential buyers are currently out of the picture:


“Corporate buybacks are the sole demand for corporate equities in this market,” David Kostin, the chief U.S. equity strategist at Goldman Sachs Group Inc., said in a Feb. 23 Bloomberg Television interview. “It’s been a very challenging market this year in terms of some of the macro rotations, concerns about China and oil, which have encouraged fund managers to reduce their exposure.”


Kostin said companies tend to enact a blackout period and restrict share repurchases in the month following the end of a calendar quarter, and come back once they’ve reported results. In a market where everyone else is selling, the ebb and flow of corporate actions have amplified volatility.”


We’re not so sure that corporate buybacks are the “sole demand for equities”, but it is probably true that buybacks or the lack thereof have more effect on short term volatility in times when other market participants are uncertain and less inclined to buy.



Regardless of which source ultimately proves more important, the above suggests that market liquidity tends to become more scarce around the end of the quarter at present. We have already seen this effect play out twice in row and it could well be that there will be another replay this quarter.

Considering what happened in 2010, much also depends on perceptions about upcoming Fed policy, but it seems unlikely that today’s FOMC statement will do much to alter expectations. We can take the buyback blackout period as a given, which leaves us with watching the monetary base for clues.

It will be interesting to see whether the next decline in the monetary base – which should be expected to occur around quarter-end based on previous observations – will once again precipitate stock market weakness. It is definitely possible that this indicator is useful for short term trading purposes – at least for the time being.

Stay tuned for a more general look at developments in the US monetary backdrop to be posted shortly.


Charts by St. Louis Federal Reserve Research, Bloomberg



Emigrate While You Can... Learn More



Dear Readers!

It is that time of the year again – our semi-annual funding drive begins today. Give us a little hand in offsetting the costs of running this blog, as advertising revenue alone is insufficient. You can help us reach our modest funding goal by donating either via paypal or bitcoin. Those of you who have made a ton of money based on some of the things we have said in these pages (we actually made a few good calls lately!), please feel free to up your donations accordingly (we are sorry if you have followed one of our bad calls. This is of course your own fault). Other than that, we can only repeat that donations to this site are apt to secure many benefits. These range from sound sleep, to children including you in their songs, to the potential of obtaining privileges in the afterlife (the latter cannot be guaranteed, but it seems highly likely). As always, we are greatly honored by your readership and hope that our special mixture of entertainment and education is adding a little value to your life!


Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke


One Response to “The Monetary Base, Buybacks and the Stock Market”

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • 5-cotmmrangegc03Ganging Up on Gold
      So Far a Normal Correction In last week's update on the gold sector, we mentioned that there was a lot of negative sentiment detectable on an anecdotal basis. From a positioning perspective only the commitments of traders still appeared a bit stretched though, while from a technical perspective we felt that a pullback to the 200-day moving average in both gold and gold stocks shouldn't be regarded as anything but a normal - and in this case actually long overdue -...
  • gold_bullionGold Sector Correction – Where Do Things Stand?
      Sentiment and Positioning When we last discussed the gold sector correction (which had only just begun at the time), we mentioned we would update sentiment and positioning data on occasion. For a while, not much changed in these indicators, but as one would expect, last week's sharp sell-off did in fact move the needle a bit.   Gold - just as nice to look at as it always is, but slightly cheaper since last week. Photo via The Times Of India   The commitments of...
  • wryAustralian property bubble on a scale like no other
      Australian property bubble on a scale like no other Yesterday Citi produced a new index which pinned the Australian property bubble at 16 year highs:   Bubble trouble. Whether we label them bubbles, the Australian economy has experienced a series of developments that potentially could have the economy lurching from boom to bust and back. In recent years these have included:    the record run up in commodity prices and subsequent correction;  the associated...
  • urban_ii_croppedPope Francis: Traitor to Western Civilization
      Disqualified There has been no greater advocate of mass Muslim migration into Europe than the purported head of the Catholic Church, Pope Francis.  At a recent conference, he urged that “asylum seekers” be accepted, “through the acts of mercy that promote their integration into the European context and beyond.”*   Before we let Antonius continue with his refreshingly politically incorrect disquisition, we want to remind readers of two previous articles that have...
  • 9-market-internalsBubble Dissection
      The Long Term Outlook for the Asset Bubble Due to strong internals, John Hussman has given the stock market rally since the February low the benefit of the doubt for a while. Lately he has returned to issuing warnings about the market's potential to deliver a big negative surprise once it runs out of greater fools. In his weekly market missive published on Monday (entitled “Sizing Up the Bubble” - we highly recommend reading it), he presents inter alia the following eye-popping...
  • andy-duncan-and-claudio-grassA Looming Banking Crisis – Is a Perfect Storm About to Hit?
      Andy Duncan Interviews Claudio Grass Andy Duncan of FinLingo.com has interviewed our friend Claudio Grass, managing director of Global Gold in Switzerland. Below is a transcript excerpting the main parts of the first section of the interview on the problems in the European banking system and what measures might be taken if push were to come to shove.   Andy Duncan of FinLingo.com (left) and Claudio Grass of Global Gold (right)   Andy Duncan: How do you see the...
  • spankinggoodtimeUS Stock Market - a Spanking May be on its Way
      Iffy Looking Charts The stock market has held up quite well this year in the face of numerous developments that are usually regarded as negative (from declining earnings, to the Brexit, to a US presidential election that leaves a lot to be desired, to put it mildly). Of course, the market is never driven by the news – it is exactly the other way around. It is the market that actually writes the news. It may finally be time for a spanking though.   Time for some old-fashioned...
  • fischersDoomed to Failure
      Larded Up and Larded Over We’ve been waiting for the U.S. economy to reach escape velocity for the last six years.  What we mean is we’ve been waiting for the economy to finally become self-stimulating and no longer require monetary or fiscal stimulus to keep it from stalling out.  Unfortunately, this may not be possible the way things are going.   As Milton Jones once revealed: “A month before he died, my grandfather covered his back in lard. After that, he went...
  • state_police_980_600_s_c1_t_c_0_0_1Are the Deep State’s Drones Coming for You?
      What’s Aleppo?   Look out kid Don’t matter what you did Walk on your tip toes Don’t try "No Doz" Better stay away from those That carry around a fire hose Keep a clean nose Watch the plain clothes You don’t need a weather man To know which way the wind blows – “Subterranean Homesick Blues,” Bob Dylan   The entrance to Baghdad's “Green Zone”. Photo credit: Karim Kadim / AP   DELRAY BEACH, Florida – Biggest foreign policy blunder...
  • larry-1Meet Your New Stimulus Allocation Czar
      March Towards Midnight The march towards midnight is both stirring and foreboding.  Like a death row inmate sitting down to savor his last meal, a grim excitement greets the reality of impending doom.  Thoughts of imminent mortality haunt each bite.   Tic-toc, tic-toc...   As far as the economy’s concerned, there’s no stopping its march towards midnight.  The witching hour’s rapidly approaching.  We intend to savor each moment and make the best of...
  • speculatorInterview with Doug Casey
      Natalie Vein of BFI speaks with Doug Casey   Our friend Natalie Vein recently had the opportunity to conduct an extensive interview with Doug Casey for BFI, the  parent company of Global Gold. Based on his decades-long experience in investing and his many travels, he shares his views on the state of the world economy, his outlook on critical political developments in the US and in Europe, as well as his investment insights and his approach to gold, as part of a viable strategy for...
  • walmart-st-augustine-flaEvacuate or Die...
      Escaping the Hurricane BALTIMORE – Last week, we got a peek at the End of the World. As Hurricane Matthew approached the coast of Florida, a panic set in. Gas stations ran out of fuel. Stores ran out of food. Banks ran out of cash.   A satellite image of hurricane Matthew taken on October 4. He didn't look very friendly. Image via twitter.com   “Evacuate or die,” we were told. Not wanting to do either, we rented a car and drove to Maryland. “We’ll just...

Austrian Theory and Investment

Support Acting Man

Own physical gold and silver outside a bank




Realtime Charts


Gold in USD:

[Most Recent Quotes from www.kitco.com]



Gold in EUR:

[Most Recent Quotes from www.kitco.com]



Silver in USD:

[Most Recent Quotes from www.kitco.com]



Platinum in USD:

[Most Recent Quotes from www.kitco.com]



USD - Index:

[Most Recent USD from www.kitco.com]


THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

Buy Silver Now!
Buy Gold Now!