Paradigm Shifts
Doug Nolan
We live in interesting times.
A deeply divided nation is today evenly split between jubilation and despair.
The earth shakes, as the deep chasm blows wide open.
Winning half: Nation Saved.
Losing half: Nation Doomed.
I’ll leave post-mortem analysis to the Democrats.
“America has been through a lot over the last few years — from a historic pandemic and price hikes resulting from the pandemic, to rapid change and the feeling a lot of folks have that, no matter how hard they work, treading water is the best they can do.
Those conditions have created headwinds for democratic incumbents around the world, and last night showed that America is not immune.”
- The Obamas
Over recent years, the inflationism cancer metastasized.
Donald Trump and his campaign were masterful in pinning the inflation scourge on the Biden/Harris administration.
And with ongoing massive deficits, the administration and Congress deserve scorn.
Of course, Washington's profligacy has been on full display way for too long, Democrats and Republicans.
I can imagine Chair Powell chatting privately with Fed colleagues throughout the campaign:
“Let’s keep our heads down.
Inflation is a critical campaign issue in such a pivotal election, and we’ve thankfully remained out of the firing line.
Biden and Harris are just not going to target us, while Trump will keep hammering home it’s all the administration’s fault.”
Politico’s Victoria Guida:
“Some of the President-elect’s advisors have suggested that you should resign.
If he asked you to leave, would you go?”
Powell: “No.”
Guida: “Can you follow up on—do you think that legally that you’re not required to leave?”
Powell: “No.”
The irony of it all.
In my imaginary bizarro world, President-elect Trump would immediately invite the Fed Chair to hang out at Mar-a-Lago.
Job well done.
The scars from inflation and inequality run deeper by the year.
Grievance, resentment and insecurity.
And while the pandemic was terribly destabilizing, it was the Fed that printed $5 TN – five times the size of the response to the 2008 collapse.
Rates were pushed down to zero.
Moreover, the Fed badly misjudged “transitory” and didn’t get rates back above 1% until June 2002 – with CPI (y-o-y) already above 5%.
And, importantly, Fed policies accommodated reckless fiscal deficits – during Trump and Biden administrations.
It was fitting to have a Fed meeting the day after such a pivotal election.
Seventy-five basis points in forty-eight days.
The S&P500’s 4.7% weekly gain (biggest in a year) pushed y-t-d returns to 27.2%.
Tesla surged 31% - with an additional $250 billion pushing market capitalization back to $1 TN.
CNBC’s Steve Liesman:
“Mr. Chairman, you talked about higher rates, perhaps from an expectation of higher growth.
You didn’t talk about it in terms of expectations of higher deficits.
Is that something you think might be behind the recent rise in interest rates?
And are rising deficits of concern to you?”
Chair Powell:
“So we don’t comment on fiscal policy.
And, again, I don’t have a lot more to say on what’s driving bond yields.
In terms of policy changes though, let me give you a sense of how this works, in the ordinary case.
Let’s say Congress is considering a rewrite of the tax laws.
Doesn’t matter what’s in the content.
So, we would follow that.
At a certain point, we’d think we see the outline.
So, we’d start to model it.
And then we’d wait, and we’d wait.
And at a certain point, the staff would brief the FOMC and say these are the likely effects…
So, we’d try to get smart on that.
And then the law actually passes.
And you’d probably run an alternative simulation before that happens, just to keep people trying to understand it.
Then when it actually passes, it goes into the model, along with a million other things.
We have a very large economy.
Many things are affecting it, at any given time.
And a law change of some kind would go in there, but it’s a process that takes some time.
Clearly, the legislative process takes a lot of time.
And, of course, the real question is not the effect of that law, it’s all of the policy changes that are happening.
What’s the net effect and the overall effect on the economy at any given time?
So, I think that’s a process that takes a lot of time and that we go through all the time, with every administration constantly.
And this will be no different.
But there’s nothing to model right now.
It’s such an early stage, we don’t know what the policies are.
And once we know what they are, we won’t have a sense of when they’ll be implemented, or all those sorts of things.
So, I think I would just say we’re not doing that now.
And all that will take time.
And it will be very much regular order when we do that.”
“This is not just a big win for President Trump, this is not just a big win for Republicans.
This is the emergence of a new power structure in the United States,”
- Mohamed El-Erian, BloombergTV, November 5, 2024
Perhaps at some point later next year, the Fed will tinker with its econometric models.
As for Wall Street, “new power structure” impacts are immediate.
The KBW Bank Index surged 10.7% in post-election Wednesday trading.
The Broker/Dealers jumped 8.2%, the Philadelphia Oil Services Index 7.8%, and the Dow Transports 5.4%.
The small cap Russell 2000 rose 5.8%.
Bitcoin inflated 10% to record $75,959 (ended the week up 80% y-t-d).
Question: “And can you give us any more sense of how proactive or reactive the Fed is prepared to be to changes in economic policies with the next administration?”
Powell:
“So let me say that in the near term the election will have no effect on our policy decisions.
As you know, many, many things affect the economy, and anyone who writes down forecasts in their job will tell you that the economy is quite difficult to forecast, looking out past the very near term.
Here, we don’t know what the timing and substance of any policy changes will be.
We, therefore, don’t know what the effects on the economy would be, specifically whether and to what extent those policies would matter for the achievement of our goal variables, maximum employment, and price stability.
We don’t guess, we don’t speculate, and we don’t assume.”
Well, markets assume and, especially these days, markets certainly speculate.
More than ever before, markets and the Fed are poles apart.
And, let there be no doubt, speculative markets have taken control and now dominate our diminished central bank.
The “new power structure”: Big Money, Dark Money, and unsuspecting money.
The Federal Reserve is relegated to a sideline observer to be called upon when the money interests need a liquidity backstop.
The Associated Press’ Christopher Rugaber:
“You mentioned the positive economic data that we’ve seen since the September meeting, including the revisions to things like savings, higher GDP growth.
We saw a stock market jump yesterday.
That’s renewed some of the questions about why do many cuts at all in this—with this backdrop?”
Powell:
“So you’re right.
As I mentioned… the latest economic data have been strong.
And that’s, of course, a great thing and highly welcome.
But, of course, our mandate is maximum for employment and price stability.
And we think that even with today’s cut, policy is still restrictive.
We understand it’s not possible to say precisely how restrictive, but we feel that it is still restrictive.”
How can the Fed assert “restrictive” with conditions so loose?
The KBW Bank Index closed the week with a 2024 return of 41.3%, lagging the Broker/Dealers’ 49.3% y-t-d return.
The NYSE Financial Index has returned 27.6% and the Nasdaq Financial Index 29.4%.
Such spectacular broad-based financial sector performance is evidence of a dramatic loosening of financial conditions.
Investment-grade spreads to Treasuries, a key financial conditions indicator, narrowed nine this week to 74 bps, the low all the way back to June 1998 (high-yield spreads narrow 19 to 256 bps, the low since pre-subprime eruption June 2007).
Powell:
“We do take financial conditions into account if they’re persistent, and if they’re material, then we’ll certainly take them into account in our policy.
But I would say we’re not at that stage right now.
It’s just something that we’re watching.
Again, these things don’t really have mainly to do with Fed policy, but to do with other factors in the economy.”
Powell:
“It’s material changes in financial conditions that last, that are persistent, that really matter.”
Powell’s “financial conditions” references were in response to questions regarding the jump in bond yields and the implication of tightened conditions.
Extraordinarily loose conditions that are persistent and certainly material – arguably momentous – somehow go undiscussed.
I would be remiss if I did not highlight that period of exceptionally loose conditions in the Summer of 1998.
The KBW Bank Index reached an at the time record high of 95 on July 17, 1998 – with a y-t-d return of 25%, while the Broker/Dealer Index, also at an all-time high, enjoyed a 33% y-t-d return.
Less than three months later, at intraday October 8th lows, the KBW Bank Index had collapsed 43% from highs and Broker/Dealers 56%.
Loose conditions and associated extreme speculative leverage came back to bite hard with the simultaneous Russian and Long-Term Capital Management (LTCM) collapses.
No exaggeration, the global financial system was at the brink (Google “Committee to Save the World”).
There will invariably be a backlash down the road, but Tuesday was a paradigm shift.
A wave of deregulation, certainly within the financial sphere, equates to further loosening financial conditions.
Importantly, this wave comes late in the cycle, exacerbating “terminal phase excess” and extending the late-cycle parabolic rise in systemic risk.
I actually empathize with Powell.
He’s still going on about the Fed reducing rates to find some neutral rate.
When asked about possible “black clouds on the horizon” he’s watching, Powell mentioned only elevated geopolitical risks.
Between historic Bubbles and a feisty new administration, he’s got his hands full.
And how could he not have premonitions of becoming President Trump’s scapegoat?
I expect higher bond yields will provoke intense pressure on Powell to slash rates and resume QE?
Ten-year Treasury yields surged as much as 21 bps Wednesday to a five-month high 4.48% - before reversing lower to end the week down eight bps to 4.31%.
Complex paradigm shifts, such as Tuesday's, beckon for analytical humility.
With massive derivative trades struck around election day, I’ll cautiously dismiss this week’s decline in Treasury yields.
I’m assuming a clean sweep with Republicans holding the House.
Team Trump will come with an ambitious agenda and an aggressive first 100-days strategy.
And I expect the bond market to have issues.
But with inauguration more than two months away, there’s still a window for a Treasury short squeeze and further unwind of hedges.
Lots of moving parts to Tuesday’s paradigm shift.
November 8 – Bloomberg:
“China gave indebted local governments a 10 trillion yuan ($1.4 trillion) lifeline but stopped short of unleashing new stimulus, preserving room to respond to a potential trade war when Donald Trump takes office next year.
Officials unveiled details of a program to refinance ‘hidden’ local debt onto public balance sheets…
Funds for that program — telegraphed last month but without a price tag or timeframe — will be provided through 2028, they said, after the move was authorized by the nation’s top lawmaking body.
While policymakers didn’t announce measures to directly stimulate domestic demand, Finance Minister Lan Fo’an promised ‘more forceful’ fiscal policy next year, signaling bolder steps could come after Trump’s inauguration in January.”
Analysts were disappointed Beijing didn’t come with bigger stimulus.
Give them time.
Seems reasonable that Beijing hopes its stock market shock therapy will kickstart general confidence.
Besides, Chinese policymakers will heavily lean on bank lending for economic stimulus.
November 8 – Bloomberg:
“Several major Chinese banks are exploring proposals to increase their core tier 1 capital, following Beijing’s pledge to recapitalize its biggest lenders for the first time in over a decade, Financial News reported…
The move will help major banks ramp up lending to sectors including infrastructure, advanced technology and real estate, as part of efforts to revive the economy, Zeng Gang of Shanghai Institution for Finance and Development was quoted as saying.
While China’s top six lenders have core tier 1 capital that significantly exceed regulatory requirements, the capital injection will help them ‘get prepared for the rainy day,’ Ye Yindan, a researcher with Bank of China, told the paper, which is overseen by China’s central bank.”
Beijing would prefer to enter trade negotiations with President Trump from a position of strength.
This will require major additional stimulus.
With Tuesday’s earthquake, I see an unfolding battle of paradigm shifts.
Indeed, I expect the election to only hasten the bond market’s newfound focus on debt and deficits.
Peak Bubble excess today beckons for a desperately needed dose of market discipline.
Headlines for posterity:
“Wall Street Bets on New Riches Ahead in Markets All-In on Trump.”
“Gusher of Bonuses for Wall Street CEOs Forms After Trump Win.”
“Banks Eye Trump Regulatory Reprieve, Starting With Capital Rules.”
“Crypto Pins Hopes on Reshaped SEC for Deal Revival Under Trump.”
“Rokos Makes Almost $1 Billion in a Day on Trump Rally.”
“Trump Victory Opens Door for Historic Tariff Hikes.”
“Trump Asks Robert Lighthizer to Run US Trade Policy.”
“With Ready Orders and an Energy Czar, Trump Plots Pivot to Fossil Fuels.”
“Crypto World Takes Victory Lap After Big Politics Bet Pays Off.”
“Binance Boss Hails Crypto ‘Golden Age’ as Trump Win Fires Up Industry.”
“Elon Musk’s Net Worth Tops $300 Billion in Wake of Trump Victory.”
“Trump Put Musk on Phone With Zelensky During Call.”
“Biden Congratulates Trump in Phone Call, Invites Him to Meeting at White House.”
0 comments:
Publicar un comentario