Rule #1: Liquidity will eventually flow into undervalued assets.
This one is the simple reason why we see these long cycles of commodity and paper asset bull markets. At some point, because of human nature, one asset class will become extremely overvalued. We saw this extreme overvaluation in paper assets reach it's peak in 2000.
At that point smart money started leaking out of the stock market and looking for undervalued sectors. Areas with greater profit potential.
That sector was of course the commodity markets.
Now we are facing the consequences of the Fed's attempts to keep the paper markets elevated, a collapse in the financial system.
The Fed's response; pump more money into the banking system. We've already stood by and watched as they spent trillions of taxpayer money to keep the banks solvent. I dare say they've come to far to quit now.
Now I'm not one for conspiracy theories and I don't believe the PPT can rescue the markets even if there was such a thing. What I do wonder about is if the government, the same government that has pissed away trillions on failed banks, is going to allow the BKX to collapse again. You can see we just got a breakout above 44 and it appears to be holding. I have to wonder if this is going to be "allowed" to drop below that level again. The market is very sensitive to what happens to the financials.
I have to wonder if this is the reason John Paulson took a large position in BAC. It certainly wasn't because the fundamentals for financials are improving.
Now let me tie in the theme of this post to what I really want to point out. Let's say the Fed is pumping a constant stream of cash into the banking system. Rule number one is still going to apply, that cash is eventually going to make it's way out of the insolvent banks and go looking for undervalued assets.
Take a guess at what the single most undervalued asset is in inflation adjusted terms since 1980.
You guessed it, Gold!