Historically the market has boomed after Federal Funds rate cuts.  The ease of finding low rate credit makes its way to financial markets, serving up a boom period every time rates are lowered.  This time, no matter how low rates are going, the markets are not responding.

The credit crunch is still underway.  While the Federal Funds rate is approaching new lows, there is still mal-investment to be taken out of the system.  A recession is a normal part of the business cycle, the market moves to expel any unnecessary credit.  The last few months of price action is housing and in corporations can be seen as this removal of credit.

In the past, lowering the rate and opening up the Reserves to more money would create more new credit than was disappearing.   While this does produce short term inflation, it would also boost confidence until the money supply could then be deflated later.

Unfortunately the money supply has not been deflated since 1929, the last great depression.  Almost all depressions are created from a contracting money supply, the Federal Government knows this and will do anything in its power to avoid it.  The real problem isn’t in the current M0 money supply of $900 Billion, its in the M3 supply of over $10 Trillion.

While just $900 Billion in hard currency is in print, $10Trillion exists in the form of credit and loans.  Just simple mathematics will tell you that the amount of credit is ten times higher than the actual amount of cash.  It is natural for a market to try to correct to its actual value, the last 10 years is full of too much credit resulting from housing and loans against the inflated value of homes.

The Federal Reserve has the tough job of keeping the money supply at the same number to thwart of deflation and keep inflation worries away.  If the market doesn’t respond to this next half-point cut, chances are that we’re not going to see a rebound any time soon.

The non farm payroll report comes out each month on the first Friday of the month.  This report basically shows the number of employed and also unemployed workers that work in fields other than farming, much like the title suggests.  The data does not include government employees, the self employed or employees of nonprofit organizations.  All there of those jobs are highly manipulated by forces other than just simple economic dynamics.

Nonfarming payroll is usually a more economic number than it is a number important to the stock market.  The report greatly affects the currency exchange rates with any pair including the USD.  The forex market will usually go gyrate 50-100 pips before the report is even published due to speculative investment.

The non farm payroll is extremely important because it accounts for 80% of the workers in the United States.  This number is usually the go to number for investments in currencies and commodities but rarely makes its way into the stock markets like it did today.

The Dow was off by some 200 points today after a disappointing non farm payroll statistic that pointed to higher unemployment.  The payrolls were slashed by 63,000 jobs in February which marks an almost guaranteed recession.  Investors are looking for any indication they can to recession, and certainly they responded in that fashion today.  Most months the nonfarm payroll goes virtually unnoticed.  The only market to respond to payroll statistics is generally the currency markets, as payroll statistics are a part of an economic issue rather than a market issue.  Today the situation is different, almost every economic issue is immediately made a market issue which is why we’ve been seeing such high activity.

Stocks surge after news that they will be listed in a new index.  When news breaks that Joe Schmo’s company will now be used in the S&P 500 index, chances are the price is radically affected.

Indices give good feelings.  The idea that a company is good enough to be used as an example gives investors that warm fuzzy feeling inside that the business is thriving.  Being listed in a index gives the idea of stability and confidence that the corporation will succeed.  Investors like to see other investors doing the same thing, when an index picks up a stock you can bet that investors are taking notice and getting in.

The index fund effect is another reason that stock prices boom.  There is billions, if not trillion of dollars in funds meant to mimic the biggest and the smallest of index funds.  These mutual funds carry the same positions and weight as modern indices and charge a modest fee for account management.  These are largely set and forget kind of programs for the manager, who merely copies the holdings of the chosen index.

When a company gets added to an index, the index funds have to automatically adjust to the new corporation.  The fund will shift capital out of the dropped company and place it immediately into the new addition.  This creates a surge in the price of a stock from near overnight demand.  For indices like the S&P500 this is huge news because the amount of funds trying to replicate the results of the index is in the hundreds.  Almost and family of funds will offer an S&P tracking fund meant to trade parallel to the value of the S&P500 itself.

Being a part of an index can hurt a stock as well.  In periods of negative returns, equity is taken out of the market, hurting the indices as a whole.  When things turn sour at XYZ which is listed on the Dow, withdraws likely resulting from negative performance will probably affect the value of ZYX which happens to be an entirely unrelated company.

Getting in an index is paramount to a stock price’s success.  When capital flows into the markets it is often parked in index funds particularly S&P500 funds.  The added demand from institutions means higher stock prices and lower float, ultimately leading to less volatility in the market.

It’s a word you hear commonly associated with breaking news, interest rate cuts and other tidbits of information flying across your screen.  The market has already “priced in” the difference of a 50pt cut in the overnight federal funds rate.  What is priced in?

The term “priced in” is a fancy way to say that the market expects this event to happen and has already affected the prices on the market before it happens.  Even in this day and age of technological innovation the small trader is left out of the loop of most financial information and by the time it hit’s the public, the difference is already “priced in.”

In this specific example, the interest rate cut of 50 basis points is expected by the market.  Investors would expect no more nor less from the Federal Reserve Board when they meet to discuss the overnight federal funds rate, or the rate at which money is lent to member banks.  The expected cuts are priced in because investors probably made trades on companies based on the cut.  It is likely that bigger investments were made in banks as lower rates means lower foreclosures, or that more money flows into debt ridden companies which will now be able to borrow at low low rates.

The term “priced in” is usually associated with any news or even that has not yet occurred but has already affected the market.  Chances are, before the public heard about Microsoft’s takeover bid for Yahoo, investment dollars were already moving into Yahoo to benefit from the wild speculation.  It is almost impossible for the individual investor to get a hold of information before the market adjusts for it.

You’ll hear the term many more times as we near the FED meeting.  If the FED does cut the rate by .5%, expect little reaction by the Fed.  A cut of just a quarter point might lead people to think the FED is too concerned with inflation and start selling shares.  A larger rate cut might signify that the Federal Reserve is very worried about recession and the market will sell off.  Today’s close is likely the level we will see if the rate cut goes as expected, any divergence will likely bring a massive sell off.

Gold has been touted as the historical hedge against an inflated currency. Today, investors are scrambling for gold to protect their assets against a credit crunch, recession and possible stagflation. As gold nears $1000 an ounce it is time to consider how to invest in precious metals and just which metal is best for a dollar hedge.

Gold is the universal currency. Before 1971, US Dollars were legally backed by gold reserves (legally, certainly not entirely). Today most currencies, with the exception of the Swiss Franc, are fiat; their value coming from the faith in the governments that issue the currency. Before Bretton Woods in 1944 and the global shift from gold to dollars, gold was used as a way for governments to balance deficits at years end.

Gold is still considered a hedge to rampant inflation and recession. Gold’s value is intrinsic, the value of one ounce of gold does not change, the value of currency changes relative to gold. At least that is the view of most economists.

While gold may provide a nice hedge to a falling currency, silver is a much better investment than gold. Silver is used in thousands of products and has a heavy demand stemming from its use in traditional photography. The demand for silver is up dramatically in the last few years, without government and institutional sales there would actually have been a silver deficit last year.

Silver also benefits from a lower per ounce price. While gold costs $990 per ounce, the price of silver sits at just about $20 per ounce. The sticker shock of gold prices is likely to occur in the $1000+ ounce area while silver has much room to gain before sticker shock sets in. Sticker shock is likely to keep gold prices from ever hitting new territory while silver has room to tack on extreme percentage gains before the same price shock sets in.

Silver’s main advantage might come from the futures market. Short sellers on silver are all over the place and some analysts think that the amount of shorts is greater than the world supply of silver. As short sellers start buying to cover their positions, the explosion in silver prices will likely follow. Too many positions have to be covered and by only one method- purchasing silver on the open market.

The greater demand, smaller price and the market dynamics of silver make it a far superior investment than that of gold.

Oil, corn, pork bellies, soybeans, wheat, steel.  It’s all priced in dollars.

Every commodity you can think of trades on the world markets, but every single price you can find will be quoted in dollars.  The dollar is the universal standard of measure of value.  Each commodity can be traded in every country and every market but the universal standard is the US Dollar.

This means that for foreign consumers, the daily fluctuation in commodities is further multiplied by the foreign exchange markets.  While Oil makes record highs in US Dollars, for Europeans it’s looking pretty cheap at 66 Euros to the barrel.   If we were in 1998 eurodollar exchange rates, the price of a barrel of oil today would be 120 Euros.

Consumers wholesale prices rose by 7% year over year.  This basically outlines an increase in the price of metals, plastics, or in general a 7% increase in the cost of most commodities.  The basis of comparison is the US Dollar, so these increases are only seen by US consumers.

When the US Dollar falls against other currencies it means that the world can buy commodities at a lower price.  If the US Dollar falls 50% against the Euro, Europeans can purchase oil at half the old price.  It is likely that Europeans will make up for the discount by buying more.  When oil is cheaper for you, why not buy more?  If oil was $50 a barrel in the United States, chances are that people would consume more oil.

The most important thing in understanding the commodity boom is understanding how prices work.  All commodities are shown in dollars, thus the rapid boom in commodity prices is somewhat due to a weakening dollar.  The commodity bubble isn’t really much of a bubble, it’s just the difference in exchange rates.  Commodities are the best way to hedge a falling currency.