Ignorance Is Bliss

Are the financial markets not paying attention? Or is that a good thing?

I keep asking myself those questions while I watch the major U.S. stock market indexes soar to new heights on a regular basis, while bond prices retreat – and yields rise – after hitting crisis levels early in the year.

The markets are saying: everything is just fine. The economy is humming along, consumers are spending, everyone who wants one can get a job, but just in case, the Federal Reserve is keeping interest rates low and monetary policy accommodative. How can things possibly get any better?

But are we getting a little too comfortable?

Stock prices are rising, and bond prices are falling even as the main Democrat presidential hopefuls try to top one another with the most profligate government giveaways they can think up – Medicare for All, free college tuition, student loan forgiveness, free health care for illegal aliens, reparations for slavery, you name it – while their peers in the House are trying desperately to drive President Trump from the White House, so they don’t have to face him on Election Day next year.

To say that there is a huge disconnect between the political world and the financial world is a huge understatement.

At some point, will investors look over this depressing – and rather scary – landscape and take their chips off the table? Or do they really believe that all of this silliness will eventually blow over and Trump – whom the financial markets seem to like, or at least are comfortable with – will arise victorious after the impeachment witch hunt plays itself out and the current field of Democrat presidential wannabes thins out? Continue reading "Ignorance Is Bliss"

That Precious Fed Independence

Well, what do you know? That precious Federal Reserve independence we keep hearing about turns out to be a crock.

That reality was exposed in the most blatant terms last week when William Dudley, just a year removed from his serving as the president of the Federal Reserve Bank of New York – the second most powerful position on the Fed, just below the chair – argued in a Bloomberg op-ed that the current Fed should do absolutely nothing to try to fix the economy if President Trump is hell-bent on destroying it through his tariff war with China. The Fed, he said, shouldn’t “bail out an administration that keeps making bad choices on trade policy, making it abundantly clear that Trump will own the consequences of his actions.”

But he went well beyond that, urging the Fed to use its monetary policy to help defeat Trump in the 2020 president election.

“There’s even an argument that the election itself falls within the Fed’s purview,” he said. “After all, Trump’s reelection arguably presents a threat to the U.S. and global economy, to the Fed’s independence and its ability to achieve its employment and inflation objectives. If the goal of monetary policy is to achieve the best long-term economic outcome, then Fed officials should consider how their decisions will affect the political outcome in 2020.”

Thank you, Mr. Dudley, for that admission. Some of us have suspected, Continue reading "That Precious Fed Independence"

The Fed's Tower Of Babel

There was a profusion of communications and opinions from the Federal Reserve last week. The challenge now is to try to make sense of it all.

The first thing that caught my attention was the release of a survey conducted by the New York Fed measuring how well the Fed communicates its intentions to market makers. It didn’t do so well.

The bank found that a majority, or 15 out of 24, of the primary dealer banks that bid on U.S. Treasury debt auctions and make a market in government securities found the Fed’s communications prior to its July 31 decision to lower interest rates to be “ineffective” or close to it. “Several dealers indicated that they found communication confusing, and several characterized communications from various Fed officials as inconsistent,” the New York Fed said.

A similar survey of money managers found only slightly better results, with exactly half, or 14 of 28, giving the Fed “low grades for communications effectiveness.”

Then, at the Kansas City Fed’s annual “symposium” in Jackson Hole, Wyoming, Athanasios Orphanides, a professor at MIT, released a paper including suggestions on how the Fed can improve how it communicates its policy-making process. While the paper commends the Fed for increasing the amount of information it provides to the public over the past three decades – it surely has – there’s room for improvement in how it communicates that information. Specifically, Orphanides recommended that Fed members provide more details about their confidence or uncertainty in their various economic projections and how those might change given different scenarios or over time.

While all of the information the Fed already provides, and the prospect of more, is good in theory, the problem is that the Fed is providing too much information, which is creating more confusion and uncertainty, rather than less, about exactly where it stands collectively, while businesses, investors and consumers crave simple guidance on the direction of future Fed policy so they can make more intelligent decisions. Continue reading "The Fed's Tower Of Babel"

Mixed Signals

In a classic case of the tail wagging the dog, the bond market is signaling that the U.S. economy is headed for a recession, rather than the economy telling the bond market that news, which it doesn’t appear to be doing.

On Wednesday, yields on the benchmark 10-year Treasury note fell below two-year yields for the first time since 2007. “This kind of inversion between short and long-term yields is viewed by many as a strong signal that a recession is likely in the future,” according to the Wall Street Journal. Except, of course, when it doesn’t, and this just may be one of those times. The economy, albeit weaker than it was late last year and earlier this year, doesn’t seem to be close to a recession.

Actually, Treasury yields have been inverted for a while, depending on which spread you look at it. At the same time, yields along the curve have dropped sharply in recent weeks, with some securities dropping to record lows.

For example, on Thursday, the yield on the 30-year bond dropped below 2.0% for the first time ever. That’s down from 3.45% on Halloween. The 10-year yield plunged below 1.60%, down from 3.16% last October 1 and it's lowest level since it hit 1.46% three years ago in July.

Meanwhile, the price of gold has jumped 18% since May to more than $1520 an ounce, its highest level in more than six years. And of course, stocks are down, with the S&P 500 off more than 6% since hitting a record high just a couple of weeks ago.

Why is the market so panicky? Continue reading "Mixed Signals"

One Lump Or Two?

With the financial markets already primed for a 25-basis-point cut at next week’s Federal Reserve monetary policy meeting, the talk has now shifted to the possibility that the Fed may go even further and reduce its benchmark federal funds rate by 50 basis points instead.

That speculation was fueled by New York Fed President John Williams, who exhorted an audience of the Central Bank Research Association in New York last week to “take swift action when faced with adverse economic conditions” and “keep interest rates lower for longer” when reducing rates.

“Don’t keep your powder dry—that is, move more quickly to add monetary stimulus than you otherwise might,” he added, which may have left some listeners wondering what year this was – 2008, when the Great Recession was just beginning, or 2019 when the economy is still growing. Either way, listeners on Wall Street were happy to hear it and immediately pushed stock prices higher.

The New York Fed subsequently walked back Williams’s comments, saying that he didn’t mean to suggest that the Fed was about to double-down on a rate increase next week, downplaying his comments as an “academic speech” and “not about potential policy actions at the upcoming FOMC meeting.”

But Fed Vice Chairman Richard Clarida swiftly echoed Williams’ comments, telling the Fox Business Network, “You don’t wait until the data turns decisively if you can afford to. If you need to [cut rates], you don’t need to wait until things get so bad to have a dramatic series of rate cuts.”

The only difference is that Williams described the economy as “pretty strong” – begging the question why the Fed feels it needs to lower rates at all, whether by 25 or 50 basis points – while Clarida implied that the economy is ready to hurtle over the cliff unless the Fed rides to the rescue.

Along comes Boston Fed president Eric Rosengren with a different take. Continue reading "One Lump Or Two?"