Bonkers Bove, the blueprint | FT Alphaville

Bonkers Bove, the blueprint

As an addendum to Monday’s political rant, Rochdale Securities banking analyst Dick Bove has made a flow chart.

It is, by his own admission, rather “poorly drawn,” but it looks like this:

If you’re at a loss (as we were) as to what it means, here’s the explanation, in words:

On the following page there is a poorly drawn Venn diagram providing a simple view of how money creation impacts stock prices. The purpose of the diagram is to answer questions raised by the report Rochdale issued yesterday linking:

* The renomination of the Federal Reserve Chairman and
* The change in the status of the banking system
* To a market crash.

The steps are as follows:

* The Federal Reserve creates monetary policy and based on that policy provides increased liquidity to the markets or restricts fund flows.
* The banking system is the preferred mechanism for sending the newly created funds into the economy and financial system. Some would argue that in recent years the financial markets themselves have been able to take newly created funds directly from the Federal Reserve and leverage the new money.
* The funds created are then allocated by a pricing mechanism to either the economy or the financial system.
* Those funds that reach the financial system are then allocated among five generic forms of financial instruments: cash, fixed income, equities, commodities, and currencies.
* The money received in the equity markets is then allocated between multiple industry sectors.

The problems raised last week were at the beginning of the chain:

* Ben Bernanke, as head of the Federal Reserve, is fostering an easy monetary policy. If he is removed from office it is believed that his successor would be inclined to tighten monetary policy and contract the investment chain at the beginning.
* The banking system is supposed to magnify the creation of funds by leveraging it through lending. Under the broad definition of the new banking legislation, the so called Volcker Rule, the banks would not be allowed to grow above, some as yet undefined, size and their funding mechanism would be changed. This would prevent the banks from leveraging the new money supplied to them.

In sum, money would not be created as freely and the system would be starved for the funds it needed to push all economic and financial activities forward. At the end of the chain the equity markets might suffer most.

Alright, so it’s not entirely bonkers.

Quantitative easing has played a role in pushing up equity prices, but it is, since it comes from a banking analyst, pretty much entirely self-serving.

Related links:
This bank-engineered equity rally – FT Alphaville
Bove resurfaces… – FT Alphaville