June 15 (Bloomberg) -- It must say something about fear and greed that normally sane people take leave of their senses to construct financial market conspiracy theories.

Some of these theories, embarrassing as it would seem, find their way into print. A recent conspiracy theory (CT) making the rounds concerns the surge in money supply growth and -- watch the web being spun -- the implication that ``the Fed must know something.''

According to this line of thinking, the Federal Reserve is flooding the banking system with reserves in the same way that it did following the Sept. 11, 2001, terrorist attacks -- except this time it's anticipating the event.

Two weeks ago, Safehaven.com posted an alarming analysis on its Web site, warning of the ``unprecedented, unheard-of pre- catastrophe M3 expansion'' (unprecedented for a four-week period unless you count similar spurts in July 2003 and November 2002).

M3, the broadest monetary aggregate, rose $154 billion, or 22 percent annualized, from mid-April to mid-May. This suggested to the author (with a Ph.D. after his name) ``a crisis of historic proportions coming, and the Federal Reserve is making sure that there is enough liquidity in place to protect our nation's fragile financial system.''

``The Fed's actions mean they know what is about to happen,'' the posting went on. ``They are aware of a terrible, horrific imminent event.''

Is the Fed just acting irresponsibly? No, the author concluded, this isn't your garden-variety central bank printing party. ``Something is up, bigger than we have ever seen in the history of the United States.''

Covert Operations

A chill came over me, but I managed to get on with life.

When I received yet another e-mail alerting me to the Fed's classified intelligence, I replied to the sender: ``If the Fed knows something, maybe it ought to alert the Office of Homeland Security.''

The 9/11 Commission found ample evidence of intelligence failure, some of it the result of bureaucratic infighting between the FBI and the CIA. You'd think if the Fed were onto another terrorist attack, it would be eager to alert the authorities.

Besides being loopy, this CT doesn't add up. If the Fed were providing the banking system with more reserves (the raw material for money creation) than banks are required to hold against certain deposits, the overnight federal funds rate would have plummeted.

That hasn't happened.

Magic Wand

Alas, this is the same pesky logic advocates of the ``Plunge Protection Team'' ignore when they assert that the Fed, Treasury and a cabal of large investment banks step in to buy S&P futures contracts whenever the stock market is going into one of its swan dives.

The Fed doesn't have a slush fund (don't tell the conspiracy theorists). The central bank creates reserves out of thin air. If it were secretly buying stock index futures -- how secret could it be with someone executing and clearing the trades? -- there would be a reserve impact. The Fed would have to drain reserves, internally or through open market operations, to keep the funds rate steady.

The other CT being promulgated right now has to do with activity in the Chicago Merc's one-month Libor futures contract, which is hardly the vehicle of choice for speculating on short- term interest-rate movements. The contracts have 633,890 in open interest compared with 6.5 million in the three-month Eurodollar futures.

Open interest, or the number of outstanding contracts, for all of the one-month Libor futures contracts, was hovering roughly between 50,000 and 75,000 late last year. It ``increased tenfold in the last five months,'' said Jim Bianco, president of Bianco Research in Chicago, who brought this CT to my attention.

September Surprise

The talk at the Chicago Merc is that a futures broker is executing spread trades for a customer betting on a collapse in interest rates after August. These trades involve being long the October one-month Libor contract and short the August contract, among other permutations.

The idea is that something is going to happen after August - - a September surprise? -- to cause interest rates to plunge.

With interest-rate futures markets getting increasingly bearish on expectations for higher rates going forward, these trades aren't exactly working.

As conspiracy theories go, black helicopters are way out there. Silent black choppers are supposedly being used by secret agents of the New World Order -- a conspiracy theory within a conspiracy theory of a United Nations plan to invade the U.S. and implement global totalitarian rule.

While the Fed is an endless source of speculation for financial markets -- another popular CT says the Fed won't raise rates aggressively because it will hurt financial companies, which make up 20 percent of the S&P 500 Index -- it can't hold a candle to black helicopters.

Wait a second. That money-dropping helicopter Milton Friedman used to talk about in explaining monetary policy to his students, wasn't it black?

To contact the writer of this column: Caroline Baum in New York at cabaum@bloomberg.net.

Last Updated: June 15, 2004 00:04 EDT