In a swift 180-degree policy reversal during Wednesday’s FOMC announcement, Fed Chairman Jay Powell said the case for higher U.S. interest rates had “weakened,” when just last month the Fed raised rates and signaled it would do so again in 2019. Something stated by Powell that stands out like a sore thumb to me is “common sense risk management suggests patiently awaiting greater clarity.” Since I had the good fortune of working within one of the most highly regarded risk management teams on Wall Street and Powell has a financial industry background vs. the typical academic found with policy wonks, it is prudent to know exactly what he meant by invoking a “risk management” clause on Wednesday.
“Risk management is the identification, evaluation, and prioritization of risks followed by coordinator and economical application of resources to minimize, monitor, and control the probability or impact of unfortunate events or to maximize the realization of opportunities.” – Wikipedia
“A halt to Quantitative Tightening (QT) and the raising of interest rates will likely occur in a step-down fashion so as to not create panic in an already precarious TaperCaper situation.” – TraderStef, Jan. 7
Let us first unpack the Fed’s current policy stance by revisiting the past.
The Crash of ’87, From the Wall Street Players Who Lived It… “If you look at Greenspan’s behavior during the Long-Term Capital Management crisis 10 years later, he moved quickly to provide liquidity to the system. So like every good trader, he learned from his prior mistakes. He thought, , ‘We’re going to get out there, we’re going to get in front of it, and we’re going to provide liquidity to the system.’” – Peter Borish via Bloomberg, Oct. 2017
Beginning in June 2018, the Trump administration’s newly appointed economic advisor, Larry Kudlow, urged the Fed to raise interest rates “very slowly,” and any comment regarding Fed policy by the POTUS was met with controversy by the mainstream media.
Exclusive: Trump demands Fed help on economy, complains about interest rate rises – Reuters, Aug. 20
The POTUS and his financial advisors were not pleased with a Fed chair bucking the message and negatively affecting the administration’s economic agenda. Powell’s comments following the Sep. 26 FOMC meeting when another 0.25% interest rate was added are that the Fed would react to a market correction if it was “significant and lasting.”
As the DJIA plunged 800+ points on Oct. 10, the POTUS had this to say…
My biggest threat is the Fed… “The Fed is raising rates too fast… Obama was working off of ZIRP, I’m working off Real Interest Rates, almost normalized, that’s a big difference and my numbers are much better. You can’t compare it.” – POTUS, Oct. 16
Despite a barrage of negative news on the global and domestic front that ensued and stock markets teetering on the edge of a global bear market, the Fed hiked interest rates another 0.25% on Dec. 19 and included in its statement that further “gradual” rate hikes would be appropriate. However, it did lower its 2019 projection to two hikes, down from three hikes previously. Dec. 2018 turned out to be the worst December for Wall Street since the Great Depression.
On Jan. 9, 2019, Fitch’s global head of sovereign ratings warned during an interview out of London that it may cut the U.S.’ triple-A credit rating. Recall that in 2011, Standard & Poor’s assigned a negative outlook rating to the U.S., and in Aug. 2011, they lowered the U.S.’ triple-A rating to an AA+ due to “political risks and a rising debt burden.”
Seeing a ‘meaningful fiscal deterioration’ in the US, Fitch says… “If this shutdown continues… and the debt ceiling becomes a problem several months later, we may need to start thinking about the policy framework, the inability to pass a budget… and whether all of that is consistent with triple-A… From a rating point of view it is the debt ceiling that is problematic.” – CNBC, Jan. 9
The FOMC Dec. 2018 meeting minutes released on Jan. 9 revealed that four of the regional central bank governors agreed that the Federal Reserve should take its time to assess market volatility and risks to the economy before adjusting monetary policy any further. The Jan. 30 FOMC meeting vote was unanimous.
“Even if the data are guiding Jay Powell, to change his tone, it still looks optically as if he is kowtowing to the White House. He’s in a really bad spot” – Danielle DiMartino Booth, Jan. 29
In case you missed it, here is the full FOMC press conference that followed the Fed meeting on Jan. 29-30.
“He’s caving to the stock market. The stock market scared him” – Jeffrey Gundlach, Jan. 30
400-point Dow rally not withstanding, Powell says there isn’t a ‘Powell put’ – MarketWatch, Jan. 30
It does appear that the three-year drive to implement QT is at its TaperCaper end due to headwinds in the global economy and impasses over trade and U.S. Government budget negotiations this year. The Fed did not see the current market-based measures of inflation compensation that moved lower in recent months or financial stability to be at risk right now, but it did note that the trend of slowing growth overseas and a self-inflicted wound from the recent government shutdown debacle make the outlook for the U.S. less certain.
“We are now facing a somewhat contradictory picture of generally strong U.S. macroeconomic performance alongside growing evidence of cross-currents… In light of global economic and financial developments and muted inflation pressures, the committee will be patient.”
Powell described the new posture one of “wait and see,” not necessarily a hard stop on rate increases, which I found to be ironic while rereading my Jan. 26 technical analysis on silver.
“The volume must rise along with the price for a rally to be sustainable. I am optimistic about silver but not thrilled to see its price action so reliant upon gold’s whims. If $16 is taken out decisively on volume, a sweet spot momo play is certain. It is a ‘wait and see’ situation.”
There is no change to the process, speed, or mix of the Fed’s QT balance sheet normalization process with a $50 billion maximum monthly run-off of Treasury bonds and mortgage-backed securities. The Fed will continue managing policy with a system of “ample” reserves, which reinforces the suspicion that the balance sheet rundown may end sooner than later and will not be on autopilot.
“The FOMC is prepared to adjust any of details for completing balance sheet normalization in light of economic and financial developments.”
Fed balance sheet sits at four-trillion.
The word “patient” has become one of the Fed’s favorite words used by all the Fed governors lately, and it found its way into the current FOMC statement. During Q&A at the press conference, presstitutes tried very hard to have Powell nail down exactly what patient meant, but they walked away empty-handed with a cacophony of Fed Speak to consider.
“Tough to say whether this is the end of the hiking cycle at this point… The government shutdown will have some impact on the GDP… As long as it is the end of the government shutdown and everyone gets their back pay, then the lost GDP will be regained in 2Q19… We do not react to most things that happen in financial markets… U.S. government budget is on an unsustainable path and needs to be addressed and there is no time like now to go after that problem… We think about a broad range of financial conditions.”
I suspect we are heading into uncharted geopolitical territory, budget battles, political gridlock, and an additional downgrade to the U.S. credit rating going forward. When considering how clear Speaker Pelosi is about her policy on budget negotiations and border security, there is no lack of clarity.
“There’s not going to be any wall money in the legislation.” – Speaker Pelosi , Jan. 31
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