The Shocking Way the Fed Has Doomed the Markets

Nobody I know likes getting sick, but it happens. If you've got small kids, it probably happens a lot.

Most adults I know get one, maybe two colds per year. But by some estimates, young children with their developing immune systems succumb to as many as seven colds per year. I've got one child- and there's a correlation between her health and the amount of money I spend on medicine and Amazon videos of Daniel Tiger during her recovery.

There's no medical mystery: Children simply aren't strong enough to fight off all the bugs yet, but to develop that strength, they need to get sick first. They emerge from each bout of sickness that much better prepared for the next germ or virus to come their way.

Capitalism isn't much different to tell you the truth. For the system to work, for markets to work, bad ideas need to fail, and stocks need to go up and down (volatility) for anyone to make any money.

In other words, Adam Smith's "Invisible Hand" absolutely must be free to do its thing. When the Invisible Hand is not free to do so, the system breaks down.

When regulators and big players unwisely put their thumb on the scale - for whatever reason - you get things like yawning inequality that threatens the very fabric of society; you get "Too Big to Fail"; you get the kind of casino banking that crippled markets in 2008; you get rigged markets, bailouts - all kinds of sickness you wouldn't normally see in a free market.

Unfortunately, that's what's happening right now.

And the very people who are holding thwarting the economy and the markets, through countless dumb, ill-considered interventions, are the ones tasked by law with keeping it going smoothly.

You'd think this kind of interference would have investors out in the street, up in arms, throwing Molotov cocktails, but no - they're actively cheering it on.

The net effect is really bizarre - and dangerous, too. Let me show you what's happening here...

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The Shocking Way the Fed Has Doomed the Markets

Over the last decade, the Federal Reserve has done everything in its power to tame volatility in the markets and "stabilize" the American economy.

We've had stimulus checks, $4.5 trillion in quantitative easing, LIRP, ZIRP, calming Fed statements, bullish Fed statements, and utter ignorance to broader issues like spiking debt and non-core inflationary pressures.

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The markets respond like drug addicts every time that the Fed speaks.

On Tuesday, markets turned negative because our Federal Reserve chair (maybe we should do like Steppenwolf and call him the "pusher man") didn't signal that investors would soon receive their quick and easy high come July.

The markets had 100% priced in a rate cut during the next Federal Reserve meeting.

The lack of promises and the under-delivery of a monetary policy "high" fueled a quick and dirty downturn that left too many people puzzled - and more sellers than buyers.

The more important news is that volatility reared its ugly head yet again. The Chicago Board Options Exchange Volatility Index - also known as the VIX - popped 6% and back above 16.

It turns out that last week's dip below 16 was just a head fake.

But was it really ever below 16? Or is that figure one of the most manipulated in the world?

Volatility: It's Misunderstood and Abused

You see, hedge funds have been selling volatility for a long time - since it's been such a successful way to make money for a long time. The reality is that the overwhelming amount of volatility selling artificially suppresses the fear in the markets.

So a VIX that reads 16... is really reading 18 or 19.

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This is important - because the suppression of volatility is conducted not just by hedge funds, but also by the Federal Reserve and other central banks through low interest rates and massive, profoundly felt interventions.

These artificial pressures make everyone think that the good times are rolling along. And any little jitter in the market leads to even more efforts to suppress new volatility pressures.

This creates a scenario ripe for a major tail-risk threat to markets in which actors constantly aim to prevent small disruptions only to create conditions for a massive explosion. Markets grow increasingly fragile - while the largest risks end up metabolizing in plain sight, yet often go ignored until it's too late.

These situations are made worse by the fact that politicians are constantly lying, regulators are constantly behind the curve on bubbles (see the dot-com and housing implosions), and ordinary investors continue to tolerate and encourage constant intervention.

Over the long term, the costs of cleaning up the aftermath far exceed the short-term gains.

The Mistake Every Person (and Turkey) Makes

Explaining "tail risk" in the markets is never an easy thing to do, so, let's really cut it down to the core.

We talked about a kid with a cold, but let's take a walk out to the farm for a minute.

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Every year, turkeys are born on farms across the country. And for the first year of their lives, they love the farmer.

They love the farmer because every day, he or she runs out and throws bird feed to them. All they can eat.

These turkeys grow fat and happy and plump - good times on the turkey farm where there's all the food you can eat and a big pen to run around.

What's eluding the turkeys here? What are they failing to grasp? What could turkeys not know about that could possibly bring the good times to a screeching halt?

The answer: the second Thanksgiving of their lives.

A day they don't know about, a risk they don't understand, and an endgame that has been set long before they were even born.

That's tail risk.

Here's What to Do Now

Once again, the market is starting to throw a tantrum. It wants the Fed to cut rates. It wants to suppress volatility. It wants stocks to go higher and higher and higher...

Until... well, I don't need to tell you what happens to turkeys right around mid-November each year.

Right now, everyone is looking for the catalyst that is going to send the markets lower. They're looking to identify the one little snowflake that is going to trigger the avalanche.

But I'm here to tell you that it's already started. And rather than wait for the inevitable - rather than wait for volatility to break to the upside - for funds to stop selling and suppressing volatility - for the Fed to run out of bullets - you need to start preparing now.

You do that with a few different protective-profit investments. Gold, for one, is always a smart holding, and it gets even smarter when trouble strikes.

Closed-end funds, like the ones I recommend here, are a great way to go and are often available at steep, baked-in discounts. They're like mutual funds that trade on the open market. Small community banks, which tend to get swallowed up by bargain-hunting bigger banks in times of financial crisis and stress, are a key defensive holding, too.

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About the Author

Garrett Baldwin is a globally recognized research economist, financial writer, consultant, and political risk analyst with decades of trading experience and degrees in economics, cybersecurity, and business from Johns Hopkins, Purdue, Indiana University, and Northwestern.

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