Add "MZM" to the list of must-follow
acronyms that includes the CPI, the GDP, the ECI and of course, the
NASDAQ. MZM counts the money supply and just might be the most
important clue as to why the market is headed for another dip this
summer. More on that in a moment...
And what’s the money supply, again? The
money supply is just that — the amount of money within our economic
system. There are various measures of it, depending upon how you
define money. The money supply is controlled by the Federal Reserve,
but it doesn’t receive a fraction of the attention afforded the Fed’s
decisions on interest rates.
What’s MZM? MZM is a measure of the
money supply and stands for Money of Zero Maturity. It has evolved to
become a preferred measure of the supply over the traditional
measures, known as M1, M2, and M3. MZM is a mix of components from the
other Ms, and includes currency, checking and savings accounts, and
money market funds. In essence, it seeks to count all liquid money,
not tied up for any period of time—hence, "zero maturity." For
example, certificates of deposit [CDs] are an example of a saving
account with a maturity, and are excluded from MZM.
As mentioned last winter in my primer
on money supply, "an important part of monetary policy is the control
of money supply. If too much money enters the system too fast, you get
inflation. This is because an increase in money relative to a fixed
number of consumable goods and services, results in rising prices...If
we all had 20% more cash next week than we do now, chances are we'd
see a huge pickup in spending and we remember from Economics 101 that
rising demand equals rising prices. Conversely, the effect of a
shrinking money supply is to choke off the stimulus necessary to keep
an economy expanding. The Fed tries to allow for enough money growth
to sustain economic prosperity, but not so much as to cultivate
inflation."
Above is a chart of MZM (seasonally
adjusted) dating back to 1985. The black line is the absolute level of
MZM and is scaled on the left in billions of dollars. The red line
represents the percent change from the same period last year and is
scaled on the right in percentage points. The dates run along the
bottom.
The red line represents the pace of
growth and is the one to focus on. The rate of growth has fallen from
a 15% pace in late 1998 to a little above 6% today. Historically, the
falling growth rate of MZM has been an ominous indicator of the
direction of stocks. You can see by the chart that MZM growth fell
from 17% to 2% immediately before the Crash of October, 1987. The
other period of falling growth was immediately before 1994, the last
year of negative returns for the broad market.
[Note: Money supply was barely affected
by the Federal Reserve’s actions leading up to Y2K. The slight spike
at year-end 1999 is almost unnoticeable. As postulated in my money
supply outlook article last winter, the Fed’s creation of $70 billion
to meet currency demands was unneeded. The freshly minted money stayed
in the vaults and thus, it is excluded from measures of money in
circulation. Nevertheless, to this day, you still hear occasional
erroneous reference to the Fed "pumping up" the money supply for Y2K.]
There’s been enough of a decline in MZM
growth rates to pose a problem for stocks. The confluence of this
phenomenon with higher rates, slowing profits, and investors who were
unfettered by the NASDAQ’s crash this spring leads me to believe that
we’ll see lower-lows in the market—led on the downside by the
NASDAQ—before bottoming out this fall in advance of an election-led
winter rally. While this may or many not prove to be true, it would be
beneficial to keep an eye MZM in the meantime.
At the time of
publication, the author was neither long nor short any of the stocks
mentioned in this article, either in client accounts or personal
ones. Positions may change at any time.
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