The Federal Reserve concluded at its latest conclave that it would indeed begin reducing its massive multi-$Trillion balance sheet within weeks. e.g., October, to the tune of $10Billion per month to start, ratcheting up that amount as time progresses.
I stated in a prior article that I believed there was indeed a chance for another rate hike. The consensus, this time, proved correct and they punted until December. I gave it a 70/30 probability for this reason: I believed holding off on the reduction of balance sheet (i.e., kicking “that particular” proverbial can) was far more relevant to the “markets” than a hike. And they needed to do something from a “credibility” standpoint. My thinking was, a “hike” was the lesser of two evils, allowing for maybe, a little, much-needed shock value to once again enter into the fray.
Yes, I’m fully aware that raising rates when the “markets” put odds of it at near zero was an outlier call. I get that. However, as myself and a few others have been pounding the proverbial table (or very-real keyboards) “It’s the balance sheet, stupid!” as to where the real impactful “market” realizations for repositioning will manifest.
And with yesterday’s announcement that indeed the Fed. will begin just that – so too has the “market” repositioning begun. i.e., It appears someone overheard a whispered, “Sell!” order. But no need to panic, at least just yet.
Whether or not there is any follow-through today, I believe is not the point. What I am of the opinion, and believe the real issue to be, is that there will be follow through on a consistent basis – for long periods to come. All to the down side. For as I’ve implied recently, I believe the markets path is already been cast, and it is down – not up.
These latest surges, or inconsequential pops higher to allow one more headline of “All time record highs!” is just the now regularly witnessed phenom from the bots (aka HFT parasites) running their hunt-and-seek stop-order, algorithmic programs.
Or said differently: We’re just poking our heads out of the water, just a little higher every once and awhile as we tread-water. The issue to remember is we’re currently only treading, and we don’t know just how deep the water is. And the “markets” are beginning to show exhaustion.
Yet, that doesn’t mean that the financial media bull-parade has lost any of its zeal for clamoring on about its resilience. Case in point was an interview I watched the other day between David Stockman and Stuart Varney on his show Varney & Co.
Mr. Varney is the consummate bull, or market cheerleader. And there’s nothing wrong with that, (and I mean just that) for that is what the job entails and demands. Yet, with that said, what strikes me is when these hosts, or interviewers demand answers (which he did of Mr. Stockman) for warnings, like (paraphrasing) “It’s time to get out of the casino!” As if the premise has no merit.
As Mr. Stockman gave his reasoning he (Mr. Varney) rebutted those warnings with arguments such as (again, paraphrasing) “Look at this market. You’ve been calling this for quite sometime and have been wrong. Had I listened to you I would have missed out on all this move.”
Hence lies the problem.
Whether or not you agree with Mr. Stockman (and for the record, I do) or not based solely on this “markets” current price would be to miss the underlying craziness of precisely what the central banks have done to not just the markets, but also to any intellectual debate, or honesty, in regards to not only the markets: but capital formation, as well as free market capitalism in general. i.e, If results are the only point? Then why stop here? Let the Fed. print $20Trillion, $100Trillion. Or, let’s all just jump on the Krugman crazy-train and mint $Trillion coins! And don’t stop at one or two – let’s hammer out thousands! Crisis solved.
Here’s why I’m making this case, and why I believe it’s all very germane.
As Mr. Varney demanded ever-the-more answers, what he invariably never realized was that he himself never gave a coherent (let alone substantive) argument as to why these “markets” were at this zenith to begin with!
Was it for improving GDP? Great earnings? Vastly improved, as well as ever improving macro data? __________ ?( fill in the blank.) No, it’s all a result of central bank largess, and a last bout of “hopium” inflation that the Trump agenda was to be enacted into law, this year.
There is no other reason for these “markets” to be here. End of story. Period. Full stop.
Another issue I heard professed across the media landscape was this, in regards to the Fed’s intention for balance sheet reduction: “This is the most televised move out of the Fed, so the markets are basically prepared for it. And, will be more akin to a non-event.”
Here’s (once again) where I mused, Really? Most expected? Ready for it?
I’m sorry, but I don’t agree. And I’ll use both some observation made by very well paid “Fed watchers” along with members of the Fed. itself, as opined via Zero Hedge™ back in August of just last year. To wit:
“…Credit Suisse’s Zoltan Pozsar wrote a note titled “What Excess Reserves”, in which the former NY Fed analyst made a very clear case for why the Fed’s balance sheet will never shrink again (particularly in the context of the broken Fed Funds market). Some of the note’s highlights:
Instead of asking when the Fed will shrink its balance sheet, it’s about time the market gets used to the idea that we are witnessing a structural shift in the amount of reserves the U.S. banks will be required to hold, where reserves replace bonds as the primary source of banks’ liquidity. And that this shift will underwrite demand for a large Fed balance sheet.”
And here’s the Fed. itself, again, to wit:
“Central banking is in a brave new world,” Atlanta Fed President Dennis Lockhart said in an interview on the sidelines of the conference.
While policymakers have maintained the Fed should eventually reduce its bond holdings, Lockhart said some officials were closer to accepting that they needed to learn to live with them. “I suspect there are colleagues who are contemplating at least maybe a statically large balance sheet is just going to be a fact of life and be central to the toolkit,” he said.
So why is the above relevant? Fair point, so one more quote, again, from the aforementioned article. Ready?
“You are seeing an exploration of how are we going to operate in a quite different world than before the crisis,” Lockhart said.
And the relevancy for the above is? Da, da, da, daahhh…..: The election had yet to happen. (of course, in my humble opinion)
The above was the working assumption inferred, and perpetuated by Fed. watchers, as well as the Fed. itself all the way and up until the election results on November 8th. Need I remind you about Ms. Yellen herself in mid October stating what the economy may need is for the Fed. to run what is termed a “high pressure” policy?
For those who’ve forgotten, here’s the money quote. To wit:
The Federal Reserve may need to run a “high-pressure economy” to reverse damage from the 2008-2009 crisis that depressed output, sidelined workers, and risks becoming a permanent scar, Fed Chair Janet Yellen said on Friday in a broad review of where the recovery may still fall short.
Now, it’s a concerted gaggle of “Hawks’ Are Us” with 4 rate hikes, balance sheet reduction to proceed, and another hike signaled for December. Remember: It’s no longer a question of if, but now – it’s when, with dates, and amounts. And that’s what truly matters. Why? Fair point, and it is this:
The section above that’s highlighted via the box represents both the timing, as well as the results when the Fed. was still holding the “markets” wallet via their reinvestment, and holdings. e.g. The balance sheet, and reinvestment roll-overs.
Once QE ended at the end of 2014 the “markets” gyrate wildly with near death experiences needing the requisite “on-duty life-guard” of the day St. Louis Fed. president James Bullard to dive into the “water” and save it. Hence why the “Bullard Bottom” moniker was born.
What I expect from here on in is a gradual realization (along with repositioning) that the highs have been made, now it’s time to move any and all profits aside, and out of danger, as much as possible. Because, until any part of the Trump agenda gets passed – there’s nothing under this market. And you can still hear the daily hissing-of-hopium deflating. But you have to listen.
I also believe much like Mike Shedlock has expressed that we’re going to get a significant sell-down, maybe of the 40 -50% variety, but not in a “one shot” type event. It’ll happen in a hypothetical scenario like 10% here, a spike back up, but not a full recovery, then maybe another 15% sell down, then the same type of bounce, then another, and another, till all of a sudden people realize the “markets” are down some 40-50% from the high. i.e., Much like Japan’s markets.
On the same token, I am also of the opinion (much like David Stockman) that the “markets” are primed for existential type event. And all it would take is just one exogenous event (e.g., a Yuan shock or similar) and the entire market complex would be sent roiling in ways that would make the 2008 crisis look tame in comparison. The reasoning being, as noted above, the only reason why we’re up here is Fed. largess, and Trump hopium.
And now Ms. Yellen has stated – they’re out. And the Trump agenda (so far) is still nothing more than a “past its expiration date” hopium dream. Remember – this (e.g., Trump agenda) was all to take place (as in signed into law or at least in its final ratification processes) this year, not anything such as “You just wait, next year is the year!”
The question that show hosts should be asking themselves, rather than their guests is this. Forget about examples of those who might have “missed out” on the rally because of caution. A better question would be:
Give the reason why the markets can remain resilient and stay at these levels? That’s the question that needs to be asked and answered. Just don’t ask Janet.
And as far as that “treading water” example I gave earlier? Think of it this way…
From the November election till now can be considered treading water in a “swimming pool.” Where every once and awhile if you tire from “treading” you can sink, but then bounce yourself off the bottom. But that’s when the Fed. held up that bottom via balce sheet roll over largess. But, beware, for now, that no longer lies below. But what does?
Is the giant sucking sound known as the “drain” aka balance sheet reduction – which leads to the “bottomless sea.”
© 2017 Mark St.Cyr