At the end of its two-day confab last week, the Fed said that — as expected — it would shift $400 billion of its enormous bond holdings from short-term to longer-term Treasuries in the hopes of knocking rates down further and stimulating the economy in what some are calling “Operation Twist.”

Have we heard this record before? In one way — yes, of course. But like many cover songs, this one comes with a different beat. Rather than spending new money, the Fed will sell short-term bonds (which should push yields higher) and buy longer-term bonds (which will push yields lower), flattening the yield curve. They don’t plan to do anything with their mortgage bonds other than to reinvest the interest and/or returned principal received on them.

For some historical perspective, it was more than 50 years ago that the Fed first put needle to vinyl on “Operation Twist.” In that version, which debuted in February 1961, the Fed initiated a similar strategy of selling short-term bonds and buying longer-term bonds. There still is some debate about how effective the measure was, but the Dow was up 7% a year after the policy took effect and up 50% four years later. Read 

In Obama’s Two Economies, Daniel Henninger wrote, “For Mr. Obama there is no such thing as the American economy. Instead, there are two Americas with separate economies — one public, the other private. … Because Mr. Obama and his circle divide the economy into two parts, with the private economy merely a satellite orbiting the public sun, he has proven incapable of offering policies for the whole nation. … The American Jobs Act is a jobs plan for Barack Obama’s America.”

Well, Henninger is dead right. While Wall Street is booming and exporters are in clover, thanks to the Bernanke/Obama cheap money policy of dollar debasement, Main Street America continues in recession and America’s retired and soon-to-be retired savers cannot earn a fair interest rate on retirement savings.

One of the most famous small coastal cities in New England had a median single-family home price of $414,550 in the third quarter of 2010. In the first quarter of 2011, that number was $260,000. Hard to believe. Like I said, out on Main Street, the recession continues with no end in sight. Read 

This week’s global selling panic that was triggered but the Fed’s worrisome comments, major bank credit downgrades, continued fears of an imminent Greek default and just generally everybody and their dog running for the exit at the same time. Many Fed watchers are shocked at the adverse reaction to the Fed’s $400 billion “Operation Twist,” where it purposely flattens the yield curve via bond swaps, which normally would cause money to flee low yielding investments into stocks.

However, the fact the Fed said after its Federal Open Market Committee meeting that there are “significant downside risks to the economic outlook, including strains in global financial markets” effectively caused Asian and European investors to sell everything, including gold and other commodities. As a result, in the aftermath of the selling capitulation, there could be an incredible buying opportunity at hand.

Long-term Treasury yields are at record lows and the 30-year Treasury bond just had its biggest rally since 2008, resulting in plunging yields and the commensurate price increases of Treasury securities. Operation Twist essentially is expanding the Fed’s “0% interest rate policy” farther out the yield curve. The three-month Treasury bill now yields 0%, the six-month Treasury bill 0.03%, the one-year Treasury note 0.1%, the two-year Treasury note 0.2%, the three-year Treasury note 0.34% and the five-year Treasury bond 0.79%. Eventually, I predict that the Fed will push the five-year Treasury bond yield to 0.5% or less after Operation Twist is over. Read 

The behavior of financial markets along with world events indicate that Europe’s financial crisis is (unfortunately) spreading. This is not a scare tactic, but an honest evaluation of the facts. Let’s analyze some of the reasons behind this.

1. Europe’s banks are undercapitalized. Last week, European banks in France and elsewhere needed an emergency cash infusion from a coalition of world central banks. The International Monetary Fund, in its “Global Financial Stability Report,” estimates $408 billion in banks’ risk exposure to toxic government debt from countries like Greece, Ireland and Portugal. Because Europe’s crisis is moving so rapidly, even IMF is having trouble estimating the true liabilities for European banks. Just last month, IMF said it would take only $272 billion to cover banks’ capital shortfall.

2. Banks still aren’t properly managing risk. The global banking system is a mess because banks are deficient at underwriting and managing financial risk. The fact that European banks are overexposed to toxic sovereign debt is proof enough. Furthermore, UBS (NYSE:UBS) is the latest poster child for incompetence when it comes to supervising its traders. It’s never a good time to announce $2.3 billion in losses from bunk trades, but doing it during the middle of a credit crisis is surreal. How many other banks are at jeopardy for this same kind of nonsense?

3. Credit downgrades. We don’t advocate putting implicit faith in credit ratings because history has taught us they are nothing more than financial opinions — and frequently, not very accurate ones. Still, a gander at the latest downgrading trend is troublesome. Intuitive observers will note this is not an isolated phenomenon, but a global trend. Sovereign debt from Greece and Portugal, after several downgrades, is now rated junk. Ireland has been downgraded, Italy was downgraded this week, and Japanese, along with U.S. debt, was lowered in August. The pace at which government debt is being downgrade is accelerating and reversing this trend won’t be easy.

4. Too many cooks in the kitchen. One of Europe’s problems in solving its crisis is bureaucracy. Between the Economic and Monetary Union, European Banking Authority and EU finance ministers, everyone has an opinion on how to fix things, but nobody can execute. Layered on top of this melting pot, are individual countries within the euro zone, each with its own distinct set of financial regulators with their own viewpoints. It’s a conglomeration of confusion. Read 

We are three years post-Lehman, and it appears that while we might have learned nothing, the behemoth that is the Dodd-Frank financial reform legislation is starting to take effect.

So perhaps we are starting to learn something.

The Republican presidential candidates clamor for repeal of Dodd-Frank, claiming it is nothing but a ball and chain around the necks of banks that would otherwise be happy to freely lend. Democrats vociferously defend its attempt to force banks to better manage their risks and protect customers. Read 

President Barack Obama offers “a plan that asks the most fortunate among us to pay their fair share like everybody else.” One wonders if Obama’s “everybody else” includes the 50 million Americans on welfare or perhaps the nearly 50% of Americans who pay no income taxes. Probably not, but then, who is the everybody else the president refers to?

But here in the Obama welfare state, who needs to work and pay taxes? As Pat Buchanan points out, “Folks below the poverty line have their kids educated for free in Head Start, for 13 years in public schools, then get Pell grants for college. They get free food stamps and health care through Medicaid. They get subsidized housing and earned income tax credits, are eligible for all other safety-net programs, and can earn $23,000 in pretax income and pay no income taxes.”

Pat’s probably making this scenario up, right? No, as usual, Mr. B. is dead on the money. I guess that crowd is not the everyone else Obama is referring to. Is it any wonder the Tea Party is gaining powerful upside momentum as sales of Ayn Rand’s Atlas Shrugged surge? In Atlas Shrugged, America’s “producers” — persuaded by John Galt — disappear, leaving behind the socialist government and creating their own independent unregulated economy. This “strike” by the producers grinds “the motor of the world” to a halt. Factories close and people riot. Read