Are sharemarket highs driven by debt flight?

I've been trying to work out why US Sharemarkets are booming while the US Dollar is simultaneously tanking - and I have this theory that it may be because people are fleeing from the debt (bond) markets.

The subprime bloodbath is now going to cost at least $100bn, according to Mr Bernanke, and the result is that investors are taking their money out. It's a bit of a vicious circle - debt-based investment companies are finding it harder to remain solvent because investors are taking their money out and making it even harder to make money out of the market.

But, of course, the bond market is also the place where US government bonds are traded - ostensibly the safest form of investment in the country (if not the world). People who invest in the bond market are both American and international investors.

So, with the bond market tanking, people are taking their money out. Where are they putting it? International investors are selling off their US dollar holdings and buying other currencies (such as the Euro, the Yen, the Pound and the Aussie). US investors are selling off their bond investments and redirecting them in the only place they know which is still making money in America - the sharemarket. So, on the one hand, international investors are driving the US dollar down. On the other hand, US investors are divesting bonds and investing in the sharemarket.

If this is true (and it's only my theory, not backed up by any hard evidence) then it would explain why it is that the Dow Jones is in so called "record" territory while the US Dollar continues to head towards Challenger Deep.

© 2007 Neil McKenzie Cameron, http://one-salient-oversight.blogspot.com/

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1 comment:

The Prudent Investor said...

Total US market cap is somewhere around $14 trillion, so a rise of 1% equals $140 billion. Investors need collateral when their bonds tank. It can go on as long as the Fed floods the market with liquidity.