Gold Prices leapt more than 3% at the start of Asian trade on Monday – and the US Dollar and world stock markets sank – on news that the Federal Reserve will today start lending directly to New York investment banks to "bolster market liquidity and promote orderly market functioning."
Starting with a $30 billion loan to finance un-sellable assets now owned by J.P.Morgan after its weekend purchase of Bear Stearns – the fifth biggest investment bank in the United States – such open-ended loans from the Fed were last made during the Great Depression of the 1930s.
The Fed's "Sunday special" joins a list of historic weekend policy moves that includes both the end of the Dollar-led gold standard in August 1971 and the start of Paul Volcker's double-digit interest rates in Oct. 1979.
Yesterday the current Fed chairman, Ben Bernanke, cut 0.25% off the interest rate charged to New York banks, stating that "liquid, well-functioning markets are essential for the promotion of economic growth."
"The Fed's [weekend] move indicates policy makers are deeply concerned about systemic risk," says Robin Marshall, a $20-billion fund manager at Smith Williamson in London.
"In the Treasury market, flight to quality remains a very strong theme. I'm sticking to five to 10-year maturities."
But five-year US Treasuries are now priced so highly, they yield barely half the current rate of US inflation, last pegged in Feb. at 4.0% per year.
Ten-year Treasury bonds pay 3.33%.
"These moves by the Fed clearly tell how serious the situation is in the United States," reckons Shuji Sugata at Mitsubishi Corp. in Tokyo.
"Gold is drawing a lot of safe-haven demand, because you can't buy stocks or currencies with this [current] volatility."
Equity prices the world over dumped this morning, with trading both erratic and illiquid in even major blue-chip stocks.
By the Tokyo close today, the Nikkei 225 index stood 3.7% lower at a fresh 30-month low. Kuala Lumpur dropped 6.1%, the Shanghai Composite lost 3.6%, and the Bombay Sensex fell by 5.4%.
European investors then saw shares in UBS, Royal Bank of Scotland and Barclays all drop more than 8%. Shares in HBOS and Alliance & Leicester both fell more than 11%, notes Reuters.
"There's turmoil in all markets after Bear Stearns, and equities is not the place to be," according to Edmund Shing at BNP Paribas.
"Everyone's asking: Who's next? Is there a Bear Stearns in Europe, could investment banks start to fail?"
J.P.Morgan Chase is buying Bear Stearns for a total of $240 million after the world's ninth largest bank suffered a run from anxious creditors and investment counterparties.
Paying $2 per share, J.P.Morgan bought BSC for less than 7% of Friday's market valuation. The sale price is barely one cent in the dollar compared with Bear Stearns' all-time top of Jan. 2007.
"Everyone's trapped facing the same way, and they can't get out," said Julian Phillips of the GoldForecaster.com in South Africa by phone to BullionVault this morning.
"We're moving into a phase of genuine panic."
Volatility also leapt on the currency markets this morning, with the New Zealand Dollar dropping 5% of its value against the Japanese Yen.
The British Pound lost more than 3% to the Euro to hit a 12-year low, while the US Dollar sank to a fresh low of $1.59 per Euro – a loss of 1.6% from Friday's close.
Crude oil jumped to a new record of almost $112 per barrel. The Financial Times notes today that the earliest oil futures contract now trading below $100 per barrel is Dec. 2016.
Gold rose faster still, however, with the Gold Price in Euros jumping to a new record high above €651 per ounce.
Gold Price in Sterling shot through £500 per ounce to hit £512 at the start of Tokyo trade – more than 3.3% higher from Friday's close. It also hit new record highs against the Canadian and Aussie Dollars, Indian Rupee and South African Rand.
Only the Swiss Franc and Japanese Yen remained above their recent lows in terms of Gold Bullion, as both currencies leapt on a fresh "carry trade" unwinding.
Both low interest-rate currencies, the Yen and Swiss Franc were repeatedly borrowed and sold by hedge funds and other speculators during the global credit bubble of 2002-2007, creating the so-called "carry-trade" that helped fund better-paying – but higher-risk – investments.
Now those debts need to be repaid as banks the world over close down credit-lines to speculative traders. The resulting flood of money back into Japanese Yen has knocked the Dollar almost 25% lower since Aug. '07.
The Swiss Franc has now risen by more than one-fifth against the British Pound.
But even for Japanese investors wanting to Buy Gold today, the price still rose strongly, breaking back above ¥100,000 per ounce – the 25-year high first reached one month ago – even as the US Dollar tumbled ¥3 vs. the Japanese currency to trade below ¥96 for the first time in twelve-and-a-half years.
For British and US investors alike, the price of Gold has gained more than 55% since Bear Stearns was forced to shut two highly-leveraged mortgage-bond hedge funds in June last year.
As Europe's major bourses gapped down more than 2% at the opening today, government bond prices jumped, pushing the yield on two-year German bunds fully 29 basis points lower to 2.96% – the sharpest drop in bund yields since Sept. 1992 according to Bloomberg data.
Two-year US Treasury yields dropped more than 20 points to offer just 1.27% to new buyers. Short-dated bonds are clearly pricing in a huge cut to US interest rates when the Federal Reserve holds its next scheduled meeting tomorrow (Tuesday).
Futures prices put the odds of a 75-basis point cut at 100%, with a better than two-to-one chance that the Fed will slash a fully one third off its key lending rate with a 1% cut.
"The Fed should commit to long-term price stability, and it needs to back up that commitment with action," say Robert P. Murphy and Lee Hoskins, two senior fellows in business and economics at the Pacific Research Institute in a new article for Forbes magazine today.
"If the Fed continues cutting rates, we will simply get the worst of both worlds: prolonged recession and excessive inflation."
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