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The Mistake Everyone Is Making About Fed Rate Hikes
Submitted by Lance Roberts via STA Wealth Management,
With the Federal Reserve now indicating that they are "really serious" about raising interest rates, there have come numerous articles and analysis discussing the impact on asset prices. The general thesis is based on averages of historical tendencies as discussed recently by David Rosenberg in his daily commentary:
"Equity bull markets never die simply of old age. They die of excessive Fed monetary restraint - but the Fed hasn't even started to raise rates yet.
In the past six decades, the average length of time from the first tightening to the end of the business cycle is 44 months; the median is 35 months; and the lag from the initial rate hike to the end of the bull equity market is 38 months for the average, 40 months for the media."
So, why fear a Fed rate hike at this point? According to Rosenberg, there are still at least three years left to the current business cycle. Right? Maybe not.
First, averages and medians are great for general analysis but obfuscate the variables of individual cycles. To be sure the last three business cycles (80's, 90's and 2000) were extremely long and supported by a massive shift in financial engineering and credit leveraging cycle. The post-Depression recovery and WWII drove the long economic expansion in the 40's, and the "space race" supported the 60's.
Currently, employment and wage growth is extremely weak, 1-in-4 Americans are on Government subsidies, and the majority of American's living paycheck-to-paycheck. This is why Central Banks, globally, are aggressively monetizing debt in order to keep growth from stalling out. If the Fed starts hiking rates in September and the next recession doesn't occur for another three years, as David suggests, this would be the single longest economic expansion in history based on the weakest economic fundamentals.
Secondly, what David's analysis misses is the level of economic growth at the beginning of interest rate hikes. The Federal Reserve uses monetary policy tools to slow economic growth and ease inflationary pressures by tightening monetary supply. For the last six years, the Federal Reserve has flooded the financial system to boost asset prices in hopes of spurring economic growth and inflation. Outside of inflated asset prices there is little evidence of real economic growth as witnessed by an average annual GDP growth rate of just 1.2% since 2008, which by the way is the lowest in history....ever.
While David is statistically correct in his analysis, it is based on nominal GDP. The chart and table below compares real, inflation-adjusted, GDP to Federal Reserve interest rate levels. The vertical red bars denote the quarter of the first rate hike to beginning of the next rate decrease or onset of a recession.
If I look at the underlying data, which dates back to 1943, and calculate both the average and median for the entire span, I find:
- The average number of quarters from the first rate hike to the next recession is 11, or 33 months.
- The average 5-year real economic growth rate was 3.08%
- The median number of quarters from the first rate hike to the next recession is 10, or 30 months.
- The median 5-year real economic growth rate was 3.10%
However, note the BLUE arrows. There have only been TWO previous points in history where real economic growth was below 2% at the time of the first quarterly rate hike - 1948 and 1980. In 1948, the recession occurred ONE-quarter later and THREE-quarters following the first hike in 1980.
The importance of this reflects the point made previously, the Federal Reserve lifts interest rates to slow economic growth and quell inflationary pressures. There is currently little evidence of inflationary pressures outside of financial asset prices, and economic growth is weak to say the least.
Therefore, rather than lifting rates when average real economic growth was at 3%, the Fed will not start this process at less that half that rate.
Think about it this way. If it has historically taken 11 quarters to go fall from an economic growth rate of 3% into recession, then it will take just 1/3rd of that time at a rate of 1%, or 3-4 quarters. This is historically consistent with previous economic cycles, as shown in the table to the left, that suggests there is much less wiggle room between the first rate hike and the next recession than currently believed.
Recessions & Bear Markets
Rosenberg's premise is that if historical averages hold, and since major bear markets in equities coincide with recessions, that the current bull market in equities has three years left to run. But this also may be a bit overly optimistic.
Another David, David Bianco, weighed in on this issue previously. To wit:
"'Stocks typically sell-off on the first of a series of rate hikes, but the magnitude and duration of the sell-off depend on conditions. During early cycle hikes the initial sell-off was generally small, quickly recovered and further S&P gains came in next three months and longer (like 2004, 1983, 1972). But many sell-offs on late cycle hikes became corrections or even bear markets. Unfortunately, it's only in hindsight do we know where we are in the cycle."
While the markets, due to momentum, may ignore the effect of "monetary tightening" in the short-term, the longer-term has been a different story.
As shown in the table below, the bulk of losses in markets are tied to economic recessions. However, there are also other events such as the Crash of 1987, the Asian Contagion, Long-Term Capital Management, and others that led to sharp corrections in the market as well.
The point is that in the short-term the economy and the markets (due to momentum) can SEEM TO DEFY the laws of gravity as interest rates begin to rise. However, as rates continue to rise they ultimately act as a "brake" on economic activity. Think about the all of the areas that are NEGATIVELY impacted by rising interest rates:
1) Debt servicing requirements reduce future productive investment.
2) The housing market. People buy payments, not houses, and rising rates mean higher payments. (Read "Economists Stunned By Housing Fade" for more discussion)
3) Higher borrowing costs which leads to lower profit margins for corporations.
4) Stocks are cheap based on low-interest rates. When rates rise, markets become overvalued very quickly.
5) The economic recovery to date has been based on suppressing interest rates to spur growth.
6) Variable rate interest payments for consumers
8) Corporate share buyback plans, a major driver of asset prices, and dividend issuances have been done through the use of cheap debt.
9) Corporate capital expenditures are dependent on borrowing costs.
Well, you get the idea. If real economic growth was near historical norms of 3%, then I would completely agree with Mr. Rosenberg. However, at current levels, the window between a rate hike and recession has likely closed rather markedly.
Lastly, it isn't just recessions that have impacted stocks prices in the past. This is something that I addressed more deeply in "Don't Fear Rising Interest Rates? Really?"
"Do Rising Interest Rates Lead To Higher Stock Prices? This claim falls into the category of 'timing is everything.' The chart below has been circulated quite a bit to support the "don't fear rising interest rates" meme. I have annotated the chart to point out the missing pieces.
While rising interest rates may not "initially" impact asset prices, it is a far different story to suggest that they won't. In fact, there have been absolutely ZERO times in history that the Federal Reserve has begun an interest rate hiking campaign that has not eventually led to a negative outcome.
What the majority of analysts fail to address is the "full-cycle" effect from rate hikes. While equities may initially provide a haven from rising interest rates during the first half of the rate cycle, they have been a destructive place to be during the last half.
What is clear from the analysis is that bad things have tended to follow the Federal Reserve's first interest rate increase. While the markets, and economy, may seem to perform okay during the initial phase of the rate hiking campaign, the eventual negative impact will push most individuals to "panic sell" near the next lows. Emotional mistakes are 50% of the cause as to why investors consistently underperform the markets over a 20-year cycle.
For now the bullish trend is still in place and should be "consciously" honored. However, while it may seem that nothing can stop the markets current rise, it is crucial to remember that it is "only like this, until it is like that." For those "asleep at the wheel,"there will be a heavy price to pay when the taillights turn red.
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Fed surrogates have been steadily walking back rate hikes. Look for a data drop to "unexpectedly" give them the excuse they need to surrender. No shortage of bad news out there. They control the data so they can do what they want.
Raising rates is just such bullshit. If they do, they'll have to turn about and ease right after, for the economy (globally) just plain stinks.
Agreed. The Fed two years ago should have started raising rates and told Congress "Back to you, there is only so much that can be done with monetary policy and we have done it. We now need structural reforms by Congress". By not doing so the Fed has already lost most of its credibility and put itself in a position to take all the blame when the SHTF. Congress will be at the front of the line pointing the finger. Couldn't happen to a nicer bunch of Guys and Gals.
1Q GDP as a result of the trade defecit is now going to be negative. 2Q GDP is already projected by the Atlanta Fed at 0.8% but that will be revised down because the inventory build in 1Q inflated GDP by 1.4% and now will be worked down in 2Q. The trade balnce is likely to worsen further in 2Q because of the latent effects of the strong dollar and higher oil prices.
So if the Fed now raises rates even by only 0.25% going immediately into a recession followed by an instantaneous reversal and QE4, they will destroy totally what little credibility that remains. Procrastination is a terrible thing?
Not sure why anyone thinks the Fed is ever going to raise rates. Wasn't it clear where this path led when they embarked on it years ago? Realization of the actuality of economic damage done by previously artificially low rates, or perpetual zero rates, was the choice then - as it remains now. Think the former is a good bet?
Queue Eee Fo Evah!
The only way the Fed could possibly fuck this up ANY WORSE is negative interest rates, which means they HAVE to do that precisely because it doesn't make a got damn lick of sense (unless you are an economissed).
Regards,
Cooter
take away 3.5 trillion of liquidity and tell me what we have for an economy?
if all the intervention was naut, we would be in a full recovery with businesses thriving with new players competitivly making decisions based on demand.
what we have is a faux command economy dependant of printing fiat and hopefull trickle down to the plebs. and when not enough gets to the plebs direct payments go to the FSA army to keep unrest from flaring up. same story as SA and china. transfere enough foriegn reserves back to a growing underclass and keep them walmart dependant.
how long can this go on? well, that is why we watch greece so closely, the template of failure, all playing on the weakness of humans dependant on a handout from a economy that is moving away from austrian priciples to a command artificially levitated fiat debt scheme. sure to fail as real wealth from labor is temporarily suplanted with fiat backed by faith. it has become a hollowed out dead tree ready to fall. a windy day could be the black swan arriving...
Or by design.
http://redefininggod.com/nwo-schedule-of-implementation/
Funny how the tribe member didn't even mention the end of QE back in Oct. They really take us all for fools.
this article is pure shit because he doesn't address the creation of fiat vs labor creating real wealth. so all his charts and other gobb slob econ talk is meaningless. the tribe will never get to the core problem BECAUSE it is why they are wealthy by skim scaming the first touch of trillions of fiat. all bullshit talk without attacking the real enemy, the fed...
The FED has been crashing markets for decades, Bernanke admitted that the FED crashed the 1929 market. But like every bull before, investors are delirious after 5+ years of free money and in love with the FED.
So they're always caught off guard when the FED crashes it yet again, which they will do this time like they've done every other time.
Would you care to explain?
Aside from opening the Fed on business days, turning on the lights and the heat when it's cold and the air conditioning when it's hot, what little credibility do you refer to?
Central bankster is talk and talk in pretense of thought full analyst, but at end of day, is facing reality of duration mismatch. Interest rate hike is crush balance sheet of most bank as major asset class of housing is all lend long, borrow short.
As debtor is slave to creditor, creditor is slave to sleazy monetary policy.
Welcome back Boris. A winter of skiing in Siberia?
As long as all debt increases faster than GDP, we're okay. When it doesn't, we're not. That's all you need to know.
Rates will be between negative 5% and positive 5% forever unless hyperinflation.
If hyperinflation you will see massive knee jerk 10% rates or something (wont happen since 90% of the population probably lives in poverty at this point anyway so most new printed money will go right back to the banks that issued it instantly anyway).
In order for the U.S. to ever see hyperinflation . . . the following would have to occur
-Total consumer debt would have to approach zero
-Avg. Consumer Credit utilization would have to drop to like 1%
-Defaults on Credit would have to disappear
So basically in order for the U.S. to ever see hyper inflation (and therefore a rate hike) all consumer debt would almost have to be extinguished (payed off or liquidated) and THEN the consumers would have to have money left over.
So what are the odds that in the next 10 years there will be soooo much money around that you would pay off your credit cards, mortgage and student loans + have money left over to the point where you "feel like you have toooo much money and must go spend it" . . . ?
We are heading for a deflationary crash and market turmoil, this is what the fed + member banks are combatting.
The only hedge for deflationary collapse is to
-Pay down all your debt (since the $$$$ you would be using to pay your debts would be rising in value) making it harder for you to pay your debts (so pay them off now or default now to get rid of it , it wont be worth paying back in future dollars)
-Holding CASH
-Holding some precious metals for when the markets start to collapse and the speculators get scared and start dumping their $$$ into metals.... $$$ that will be appreciating in value
Since most of the 1% probably are also heavily in-debt and invested in deflation sensitive assets (that will lose $$$value in deflationary environments) after the deflation starts to endanger the elite they will probably go hellicopter money mode on everyone.
At which point you should flip out of everything, and into metals and anything not-bank or cash related.
Just my 2cents which could be worth a quart deflation adjusted.
Think about it , we have had 50+ years of inflation, eventually we will see a long deflationary period . . .has to happen eventually.
Deflation doesn't happen with counterfeiting CB's in place. Only inflation occurs in this environment. In 1933, they partially outlawed dollar abandonment by confiscating gold and then debased the dollar by 75%. They are now talking about blocking cash. So, they can steal bank deposits. It always boils down to theft. Deflation doesn't allow banskters to steal, so it won't be allowed.
They've been debasing(stealing) for centuries.
http://en.wikipedia.org/wiki/Denarius
I'm looking at these oil(CL) charts, and oil is going to get whacked -A-moled hard before the end of the week. The $usd is oversold, so even if the jobs numbers come in good, the CL longs are going to take a good shellacking.
a helicopter drop is more likely than a rate hike. and we all know they would never release their QE to the public for the real fear of losing their iron grip on the velocity of money and as a consequence, hyperinflation.
It's tough to skim off the ass-end of a deal...
They will never raise rates, ever, period. The dollar will collapse into dust.
The main reason the Fed is talking about a rate hike, which they've been talking about for a few years, is to prove to the huddled masses that there really is a recovery.
That the contemplation of a rate hike is one of extreme gravitas.
Please, no smiling.
yup, faith based bullshit to levitate the dolla for another day. keep the faith bro, ha...
A couple of points/thoughts to consider. First, unlike prior expansions and contractions where interest rates were the primary tool used by the Fed to deal with an overheating or too cool economy, QE (and blatant QE at that) was aggressively used by the Fed this time around and to a point of being in uncharted waters. And remember, QE ended basically in Q3 of 2014 so we are already 7+ months past this "change" in monetary policy.
Second, I would agree with the article in that generally speaking, interest rates are raised to deal with excessive inflationary forces, an overheating economy, or to help the value of the soverign currency. Well the Fed doesn't have a worry on any of these fronts as inflation is subdued (at least stated inflation in order to keep entitlement payments under control), the economy is anything but overheating, and the USD has been the best horse in the glue factory for almost a year. So the question must be asked, why raise rates as under classical economic theory, there is nothing that would indicate a raise is necessary.
Well, I can think of a number of reasons as follows:
- In order to utilize rate decreases during the next downturn, the rates have to be raised to have some room for reduction. If not, you are left with negative rates being forced upon the system which for the US would truly be uncharted waters.
- The Fed simply needs to save face and raise rates because this is what they said they were going to do.
- The market will raise rates with or without the Fed. That is, with the 10 year interest rate increasing recently, if the Fed doesn't raise and real market set rates take hold, they will look basically like idiots.
While the type of analysis presented in this article is interesting, we must all remember we are in completely uncharted waters with regards to the global CB monetary policies used over the past 8+ years. I'm not sure if the developed economies have ever experienced this type of environment where such "extreme" monetary policy strategies would be used.
The real question that I think needs to be asked of our so called brightest economic minds is this. Let's go back ten years into 2005 and if you asked the economists what condition the world's economy would be in if outright QE and monetization of government debt combined with negative interests had to be used, my guess is that most would state that the economy would be failing and/or in a depression. Ask them today and their responses are most likely this is the new normal.
The fact of the matter is that nobody has any idea what is going to happen at this stage given the complete lack of understanding of how complex, large, and far reaching the world's debt addicted economy has become. Only the slightest event now can create a massive wave of destruction the likes of which we've never seen. Or looking at it another way and from the words of Doctor Ian Malcolm played by Jeff Goldblum from the first Jurassic Park movie "You were so pre-occupied that you could do it that you forgot to ask whether you should do it" (or something like that). Well the CB's did it and now we're going to have to deal with financial hell once the forces of the market break free from their cages.
Deal with a collapse like the USSR, 1991.
Once the collapse starts, it will be even more rapid than what happened to the USSR in 1991. I expect that the Union will also meet a similar end with the various states going off on their own.
An excellent post, well thought out.
I believe shortsighted corporate outsourcing for most of the last few decades is at the heart of all of this, and the current income crisis we are experiencing is the direct result. Easy credit of the last decade, especially in housing, was the cause of the 2008 crash, and as we have not recovered lost income, we have also not recovered real growth. The fact seems to be that the Fed and the government continues to pump these "assets", along with the stock market, because they have nothing else they can do.
There is no way all of these "great minds" were mystified about what happened, and why. They simply HAD to see what outsourcing had done to the middle class economy.
They've done what they've done because, in their minds, it "worked" before. It did not, and it isn't "working" now. Their denial, while palpable, is, and has been, all about ego. They can't admit failure because that would mean they are incompetent. It would also set off the "big one" everyone now fears. How else can anyone argue a DOW of 18k+ with half the country living paycheck to paycheck? With half the country on some form of public assistance? With a chronic monthly vigil over a job report that, whatever the number, still leaving Wall Street fretting over the next one? Or, with so many unemployed students, that their education loan debt is becoming a sub-crisis of its own?
You're quite right about having to raise rates; they can't, but have no choice. And they know it.
We are ready to collapse at almost any time.
If the powers that be can't finally at least be honest about it all, I fail to see how the world can ever really recover...
m
it wouldn't take much of a hike and the "market" reaction would be immediate. in the same way if the 10y rate goes above the s&p dividend rate that would not be bullish either. there is no market, there is only the fed.
It's just a confidence game at this point.
The point of charging the Banks 1/4 of 1% is simply to say "I believe in my own bullshit."
In other words there is a recovery.
Certainly in asset prices including the dollar there has been. And I mean EVERY ASSET CLASS THERE IS. Equities, debt, real estate...EVERY ONE IS AT AN ALL TIME HIGH RIGHT NOW.
I understand these are fucking Jews of course.
They wipe their ass with your country's money. You think McCain cares? The trade deficit only represents how price gouged we are getting because of these feckless fucks and their trillion dollar boondoggles.
Fuck the French too.
Bunch of fucking whores...
If memory serves me and if Im not mistaken the Fucking fed has created this sheeit...Volcker not bad..
Magoo started the fuck up....after 911...panic moves all over the place, dropping rates like nobodies biz..then the whole housing booosheeeit..."every american needs a home"...drop, drop, drop rates somemore...save AIG, save fannie, freddie, save GM...oh lest we forget .Gov is NOT supposed to be involved with the private sector...I feel for the greastest generation that SAVED and has watched this horseshit go on for the last decade...but hey, Ally is paying almost one percent...lmao
I am in awe that any author can attempt to make an apples to apples comparison. That comparison does not exist because ZIRP and QE are unprecedented. How can anyone try to look at historical averages to get a picture of this Frankenstein economy?
Know this. This country is bankrupt. So are it's banks. All debts are paid either by the lender or by the debtor. They can't raise rates beyond a nominal amount because somebody is going have to pay 18.2 trillion worth of soaring bond yields.
They of course will ask us to pay moar. We will at some point say- "fuck you." I'm already there. When everyone else says "fuck you" well, that's when this shit will get interesting.
I am in awe that any author can attempt to make an apples to apples comparison.
He's tribal, or this;
http://www.youtube.com/watch?v=CvQ6aiTBWhc
Best post of the day
"The Mistake Everyone Is Making About Fed Rate Hikes"
They may just raise them because they can. Megalomaniacs.
It's cheaper than having a negative rate environment provoke an anti-FED, charter revoking, revolution on their hands.
It's different this time. Every effing comparison to history or comparisons is pure BS. Hell - even Techincal analysis is little more than useless.
All we can do is sit back and wait for everything to come unwound. Which it will. In the meantime be careful with shorts and Puts and get out fast. As you can see the Zombies simply will NOT allow a bonadied correction.
Yeah it is stupid and it sucks.
WRT the referred to analaysis reminds me of the spinheads indicating on CNBS that historically EVERY time the Fed raised rates - stocks ALWAYS go up.
Of course we know by now that, regardless of anything Stocks go up. Like they likely will do Wednesday. A near full retracement would not surprise me at all.
BTW - FUCK the Fed very much.
Shipyard White IPA. Bugger all else.
Raise by 5 basis points for a few months. Watch for ramifications. Start again, raising by 5 basis points per month for 2-3 months again.
Surely, we can handle 5 basis points per months for 2-3 months. Doing so would allow us to get past the bugaboo of it all.
The game changer is if nigger Obama can pass TPP. Then we all go into Negative Interest Rate Policy. Smell reality.
I hope it happens, so the people supporting it lose everything. Don't want to be mean. We keep telling you to steer the ship wheel.
It's always been about full control of Central Banking protocol. The Jews we provide US taxpayer monies have been caught in boredom.
I watched IDF killing many people on horseback. It was sickening, was on the beach. All these fucker want is US taxpayer financial aid. They forget, the country is only the size of New Jersey.
Perhaps, our Airforce would drop a bomb on you and call it collateral damage? Think about it. Hypocrisy is only a paycheck away.
If you look at yields in the great depression period you realize we have 20 more years to go until rates / yields are allowed to rise. Central banks won't allow it as Governments can't afford it. More on:
https://contrarianstraighttalker.wordpress.com/2015/05/06/why-us-yields-...
it's over.
no one will admit it.
helicopter ben singing the blues. no one understands me. wetting his diapers.
the fed i f*cked
the country is flat.
instead of fighting each other ala black and white, team up and flatten the bankers.
they've got all of you divided and fighting each other.
it doesn't matter how many guns you've got.
you've got to do it together.
get off your as*es
Pronostico futuro Bono 10 años ZN http://www.aseperfi.com/net/aatricnl/inftricmlzn.htm
Saludos
Jun Gajete
Exactly what will compel the Fed to raise rates?
A dollar crash.
But but but.... this morning the local presstitutes talked about how 3 levy referendums passed in some school districts, and that just shows you how good the economy must be.