Central Banks & US Dollar Strength & US Dollar Supply

The dollar as the worlds global reserve currency is the most important currency to track. It's the most influential in terms of the global economy. A strong dollar is not necessarily good news for global stock markets. Both the SP500 and global funds tend to move in the opposite direction to the almighty US dollar. If the stock market rallies into a strengthening dollar it could be a sign of a 'bull trap' with sellers cashing in at the top creating headwinds for the SP500 and therefore our global stock market funds.

Money Supply 

Money Supply into the economy is a measure of the commercial bank money creation along side central bank money creation. In short when M2 increases, inflation tends to increase also although there can be a lag of more than a year before the inflationary affects of an increase M2 is seen. If the resulting inflation is high enough it would be bad for both stocks and bonds and could precipitate a recession

• Real M2 Money Stock (Fed Reserve chart) (Note: Click the "Edit graph" button on the Fed page and switch the charts to 'Percentage change from a year ago' in order to see a clear relationship between sub-zero readings and recessions.)

• To see the main M2 Money Supply graph that drives the US stock market and hence our standard globally diversified stock funds this link shows the Federal Reserve M2 supply. If it is trending up then it's generally bullish for global stock funds and vice versa.

M2 Money Supply - Liquidity

'Liquidity' is quite possibly THE main driver for stock market booms and busts. The overall measure of liquidity (money) in the US is the M2 money supply. A great example of how an injection of liquidity by central banks leads to booms in stocks is the 2024 'parabolic' move which started in November 2023 and lasted about 6 months.

When M2 is plotted on a chart relative the the US SP500 equities index, the 2024 level on the right hand side below is ABOVE both the Great Financial Crisis and the Covid/2022 inflation crashes when everyone thought the word was about to end.

This massive liquidity injection is more than likely the reason for the 2024 'parabolic' move up in equities, althoigh a perfect storm also occurred with the narrative of incoming interest rate reductions and no recession... the 'soft-landing' hypothesis... which 'the market' bought hook line and sinker. The market then started selling off when the move reached exhaustion.

We know that liquidity drives the stock market index price of the SP500. If we were getting really technical then there are liquidity charts which combine different components of liquidity that combine to form an accurate measure of real liquidity injected or removed by central banks. This might be something like... actual liquidity = Feb Balance sheet SOMA (this is also on FRED site), minus the Reverse Repo RRP (this is also on FRED site), minus the TGA (this is also on FRED site).

We'll leave that for another day but for now the standard M2 money supply for the US is possibly the biggest driver in the biggest component of our global funds so this is a good approximation. (We will be showing global liquidity charts and global M2 money supply in the future so stayed tuned in by signing up to the BBI monthly newsletter)

Global Liquidity is a highly specialised area and I wont pretend that I am in anyway an expert. There will of course be different measures of liquidity. The chart above shows the liquidity cycle rising up into the end of 2024 but this Trading View Index shows small global liquidity declining since early 2022. As I understand it though there were indeed liquidity injections by central banks to jumpstart the economy/markets from the slump of 2022 so I would tend to go with the Cross Border Capital chart above.

MACRO MICRO ME

One of the things we watch out for is the rate of global central bank hikes or cuts. An aggressive move up in rates (hikes) means that inflation is getting out of control and that's generally bad for both stocks and bonds...

• MacroMicroMe Central bank hikes vs cuts

Interest rate expectations tell us where global central banks are likely headed...

• MacroMicroMe Central bank interest rate expectations

Another warning sign we watch out for is the rate of increase of central bank balance sheets. If the balance sheet of a central bank starts to hike up, then it suggests there is something amiss within that country's financial markets and might spell problems for stocks and bonds...

• MacroMicroMe Central bank balance sheets as % of GDP

• MacroMicroMe Central bank balance sheets total assets

At Boom Bust Invest we cover global financial markets, not just the US SP500, but even so, the SP500 will still be about 65% to 75% of a standard global stocks fund depending on which one you're invested in. For this reason, we do need to watch the Fed more closely...

•  MacroMicroMe FedWatch Interest rate expectations

MacroMicroMe is an excellent online resource. This article summarises the charts above.

Money Supply 

Money Supply into the economy is a measure of the commercial bank money creation along side central bank money creation. In short when M2 increases, inflation tends to increase also although there can be a lag of more than a year before the inflationary affects of an increase M2 is seen. 

• Real M2 Money Stock (Fed Reserve chart) (Note: Click the "Edit graph" button on the Fed page and switch the charts to 'Percentage change from a year ago' in order to see a clear relationship between sub-zero readings and recessions.)

• To see the main M2 Money Supply graph that drives the US stock market and hence our standard globally diversified stock funds this link shows the Federal Reserve M2 supply. If it is trending up then it's generally bullish for global stock funds and vice versa.

Central Bank Liquidity

As long as the central banks are injecting liquidity and money into the system, our global funds are likely to go up. In the chart below from MacroMicro it's the red line that is most sensitive to the inflows and outflows into the M2 Money Supply. 

Note... on a longer term view, you can see why we have seen the markets rise since 2008 with the huge increase in the nominal M2 supply- the light yellow shaded bars on the chart. Markets have been essentially artificially inflated since 2008.

To see the main M2 Money Supply graph that drives the US stock market and hence our standard globally diversified stock funds this link shows the Federal Reserve M2 supply. If it is trending up then it's generally bullish for global stock funds and vice versa.

Cross reference the above with the Global Liquidity Index as provided in this Trading View community chart...

Money Printing

Central bank balance sheets show how much money they have printed whereas the velocity of money shows how fast money is being recycled through an economy which will slow in a recessionary environment

https://tradingeconomics.com/united-states/central-bank-balance-sheet

https://tradingeconomics.com/united-states/velocity-of-m2-ratio-q-sa-fed-data.html

https://fred.stlouisfed.org/series/M2V

https://tradingeconomics.com/united-kingdom/central-bank-balance-sheet

Have The Central Banks Got Their Foot on The Brakes or Accelerator?  

The globally co-ordinated, post-Covid, central bank money printing and liquidity flooding the financial markets is now being withdrawn. How big is the hangover going to be? Whilst the big tech utilities (the so called 'FANG' stocks or the "Magnificent 7") have risen to prominence in a post-Covid world as things have moved more and more online, to what extent has this has been artificially fuelled by central banks?

The Quantitative Easing (QE) and Quantitative Tightening (QT) graphs below show the historical relationship for stock and bonds when the Federal Reserve QE/QT regimes were in play. As you can see, stocks are boosted significantly by QE whilst bonds suffer under QE and then vice versa with QT...