Bull market tops are long, drawn out processes, often lasting 18 months, give or take. But they are predictable. They happen when the central bank decides that enough is enough.
I had warned in 2017 that when the Fed started talking about balance sheet reduction, the process of ending the bull market and beginning a bear market would be at hand. Indeed the Fedheads started discussing it publicly that summer, and in September, they made it official. They would begin balance sheet “normalization” in October of that year.
What that meant, in short, was that the Fed would begin to, literally, pull money out of the banking system and extinguish it, month by month. The Fed published a schedule of reductions that would ratchet up from $10 billion per month in October to 2017 to $50 billion per month in October 2018.
Under QE – Quantitative Easing – which was supposed to be an emergency program to prop up the financial system as it was collapsing during the 2007-09 crisis, the Fed bought US Treasury bills, notes, and bonds, and MBS (mortgage-backed securities) directly from Primary Dealers. The Fed ballooned its total assets in its System Open Market Account (SOMA) from $800 billion to an insane $4.5 trillion.
That “emergency” program turned into a long-running scheme to inflate bubbles in the stock and bond markets. It lasted from late 2008 until late 2014. The Fed then undertook a program of rolling over its Treasury holdings and buying just enough MBS and to keep its total assets at that inflated level.
The Fed got what it wanted – massive asset bubbles in stocks and bonds, plus an echo bubble in US housing prices.
It decided that enough was enough in September 2017 and announced its program to “normalize” both the size of its balance sheet and the level of interest rates. “Normalize” was just a euphemism for shrinking the balance sheet.
I saw that as the death knell for the bull market. And now it’s playing out.
