What did we learn today?
- We learned that the repeated pleadings of the TBAC (starting in May and continuing throughout the year) for a Taper, did not fall on deaf ears, and the Fed finally became aware that it is monetizing US debt at too feverish a pace resulting in an acute lack of liquidity in the bond market.
- We learned that despite the arrival of the taper, Bernanke will end his tenure with the lamentable record of having been the only Fed Chairman never to have started a tightening cycle (remember: according to Bernanke “tapering is not tightening”).
- We learned that even though the Fed has taken its first step toward balance sheet renormalization one year after launching open-ended QE, it will still inject $75 billion in “Flow” into the capital markets, if not the economy, on a monthly basis, an amount which still means the Fed will consume about 0.25% of all outstanding and newly-issued 10 Year equivalents on a weekly basis (and more if the deficit declines further). The side effect of that will be that as Dealers scramble for the last piece of capital appreciation, even more capital will be sequestered into the US capital markets, leading to even more asset inflation, and even more core CPI deflation (which eventually will result in the Untaper).
- We learned that even the Fed does not give much credit to the BLS’ definition of inflation, because while the Fed has now repeatedly observed that the unemployment rate is sliding due to the collapse in the participation rate and hence labor improvements are simply a mathematical mirage, its core lament was the very subpar, and outright disinflationary CPI readings. Readings, however, which if taken seriously, would not have allowed the Fed to taper right here and right now.
- We learned that good news will continue to be bad news, and vice versa, as the faster the economy relapses into a sub-2% growth rate (and Obamacare will promptly help out in that department in the new year), the faster the Fed will take a long, hard look at returning to its baseline $85 billion (or more) per month liquidity injection. Because “data dependent” means that the stronger the data, the faster the Fed’s crutches go away: crutches that have been responsible for 100% of the market upside since March 2009. Or maybe this time the Fed has actually timed the economic recovery flawlessly and indeed a virtuous cycle is emerging. Maybe, maybe not: ask Jean-Claude Trichet who hiked rates at the ECB a few months before the sharpest European crisis flare up forced Bernanke to once again bail out the Old World.
- We learned that over the past year – based on the pace of security monetization - the panic at the Fed regarding the economy has been greater than during QE1 and QE2 (see chart below). The minimal reduction to $75 billion in QE per month, or $900 billion per year, shows that the panic is still as acute and as pressing as ever, even as the cost of balance sheet expansion gets larger, even as the Fed now owns one third of all 10 Year equivalents, and even as the incremental benefits of QE to the economy – if any - decline with every month. The “good” news (if only for corporate insiders and the 1%): in the absence of capex spending, and organic growth, corporate PE multiples will continue to expand in lockstep with the Fed’s balance sheet, pushing the S&P into ever greater, and ever more unsustainable bubble territory.
- Perhaps most importantly, we learned that courtesy of very dovish forward guidance, the thresholds for further flow reduction will be very steep, and the unemployment rate will have to drop to 6% before QE ends let alone unleashes the start of a tightening cycle. Of course with unemployment benefits ending, the US may have an unemployment print of 6.5% as soon as February/March. More importantly, it means that without a firm flow reduction schedule, the current monthly liquidity injection amount will remain unchanged for a long time, as the last thing Janet Yellen will want to do as she carefully settles into her new job will be to accelerate what is already a tightening (because, yes, Flow matters, not Stock, and tapering is tightening) monetary regime.
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- Finally, we learned what the difference between $85 billion and $75 billion is in the grand scheme of things. Or, in case we haven’t, here is a chart showing just how “vast” the impact of today’s announcement will be on the Fed’s balance sheet at December 31, 2014 when instead of printing well over $5 trillion at its old monetization pace, the Fed’s balance sheet will be only $4.9 trillion.