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Everyone Has A Plan Until...
Via ConvergEx's Nick Colas,
Every Federal Reserve Chair since 1979 has faced a notable challenge in the first 12-20 months of their tenure – something akin to capital markets “Bullies” hazing the new kid at school. Paul Volcker had the 1979-1980 Iranian oil shock/recession, Alan Greenspan the 1987 Stock Market Crash, and Ben Bernanke the 2007 Financial Crisis.
Their responses shaped market perceptions about Federal Reserve priorities and set the stage for the remainder of their tenures, from Inflation-Fighting Volcker to Save-the-World Bernanke.
Now, it is Chair Yellen’s turn, with today’s selloff throwing down the gauntlet in front of the Federal Reserve. At stake is the Federal Reserve’s relationship with equity markets not just now, but for years to come. Paul Volcker famously pushed the country into recession in 1981-1982 to dampen inflation, but both Greenspan and Bernanke were much more equity-friendly during their tenures.
How will Chair Yellen’s Fed face the market’s challenge? It will likely take months to find out, so today we update our “Have U.S. stocks bottomed” checklist. The answer: not yet.
Former heavyweight champ Mike Tyson is a man of few words, but he does have one great saying: “Everyone has a plan until they get punched in the mouth.” Less well known is his second line: “Then, like a rat, they stop in fear and freeze”. My own father, a man of about as many words as Iron Mike, had his own version: “Never trust a man who hasn’t been punched in the face.” Either way, the sense is the same. Everyone faces adversity, and how you respond to it both reveals and helps build your character.
The same, albeit less pugilistic, lesson holds true for Federal Reserve Chairs. Ever since Paul Volcker took the top job at the Fed in 1979, markets and geopolitical events have conspired to challenge new U.S. central bank heads almost right out of the box. Here are the case studies:
Paul Volcker got the big office at the Marriner Eccles Building on August 6th, 1979. The Iranian revolution was underway at the time, spiking oil prices to $40/barrel (yep, right around where they sit today). The country was in recession, the hostage crisis that demoralized the nation began in November, and despite all that Volcker pushed interest rates to 20% in June 1981 to dampen runaway inflation. That lead to a second recession in the early 1980s, but inflation has been low and generally contained for the last 30 years. No one has seriously doubted the Fed’s inflation fighting playbook since Volcker’s tenure.
Alan Greenspan took over on August 11, 1987. Two months later, the U.S. equity market crashed with Dow Jones Industrial Average falling 508 points (22.6%) on Monday, October 19th. This was back when small specialist operations dominated floor trading for stocks, and market participants worried that market losses might bankrupt some of these players. Before the open on Tuesday, Greenspan’s Fed issues a short statement: “The Federal Reserve consistent with its responsibilities as the Nation’s central bank affirmed today its readiness to serve as a source of liquidity to support the economic and financial system”. It also cut Fed Funds to 7.0% from 7.5% and NY Fed President E. Gerald Corrigan personally calls Citicorp chairman John Reed and others to encourage them to lend freely to the securities industry. The message was clear: the markets and the economy were intertwined, and the Fed understood that linkage in the context of its Congressional mandate. No one has doubted the importance of equity market performance to Fed policy since Greenspan’s time in office.
On February 1, 2006, it was Ben Bernanke’s turn at the helm. His honeymoon was a relatively long one; U.S. equity markets rallied until October 2007. The rest of the story you know well, for that 20 month quiet spell quickly morphed into the disaster that was the Financial Crisis. During the interregnum between Bush and Obama presidencies, it was the Federal Reserve that kept the lights on for the U.S. financial system. After that, he worked to expand the Fed’s balance sheet from its pre-Crisis $890 billion to its current $4.5 trillion in the hopes of sparking economic growth. Ever since then, there has been little doubt that the Federal Reserve will do whatever it takes to hold the financial system together.
And now, it seems to be Chair Janet Yellen’s turn to face her first critical challenge. She has been in office since February 3, 2014 and the S&P 500 peaked in May 2015, so her market honeymoon was almost as long as former Chair Bernanke. Still, the 10% move lower for the S&P 500 and 11% for the NASDAQ in just the last 5 days is a clear sign that markets have grown disenchanted. But why? Three reasons fall to hand:
Issue #1: Low interest rates have juiced equity valuations to levels more consistent with a rapidly growing global economy than one still stuck in first gear. Assuming that the S&P 500 can still do $120/share, the U.S. stock market’s valuation is 16x earnings with today’s pullback. That should be low enough to hold markets together, save one critical problem: analysts expect revenues for U.S. companies to decline for the next 2 quarters. That makes U.S. stocks more of a “Value” play than “Growth”, and the historical valuation range for value is more like 12-14x earnings – not 16x.
Issue #2: The persistent decline in oil and other commodity prices threatens to reintroduce the specter of deflation into global economies. In a world that still fears a Japan-style round of declining prices, that is a meaningful concern.
Issue #3: And yes… China. Stock market declines there are worrisome, of course, but more meaningful is that the Chinese government is having so much trouble containing the fallout and stabilizing financial markets. Western fund managers and analysts tend to think of this economy as a ‘Black box’, but when that container starts to sputter they are not in a position to know if it is a minor problem or something larger and more foreboding. Add to that the importance of China to global commodity producers (see Issue #2) and as a growing end market (see Issue #1), and it is easy to see how the selloff there dampens investor enthusiasm elsewhere.
After today’s action, it seems pretty clear that capital markets have a disagreement with the Federal Reserve. The latter thinks things are pretty good and it is time to raise interest rates. The former begs to differ. Two weeks ago we assembled a list of various market-based indicators that outlined this squabble, and we continue to believe that this is also a good checklist for those interested in finding a near term bottom for U.S. equities.
1. Crude oil prices. With a close at $38, oil is well below the $40 level we think divides market sentiment on a growing versus contracting global economy.
Verdict: Oil needs to find a bottom – meaning no new low for at least a week – before equities can bottom.
2. 2 Year Treasury Yields. Two weeks ago these were 68 basis points; now they are 58 basis points. At 50 basis points, they would signal almost complete confidence that the Fed was not going to raise rates any time soon. That should be bullish for stocks.
Verdict: we’re getting close, but not there yet.
3. 10 Year Treasury Yields. With a close today at 2.01%, we are on top of our 2% target for long rates as a “Buy” signal for equities.
Verdict: Our first “Buy” signal for stocks! With yields this low, the S&P 500 now sports a yield higher than 10 year notes: 2.1%.
4. 10-2 Treasury Spread. At 143 basis points between 2 year and 10 year notes, the yield curve has flattened only modestly from two weeks ago when the spread was 147 basis points. Something tighter – like the 138 average of February – April timeframe would be a clear buy signal for stocks.
Verdict: not there yet.
5. Dollar/Euro exchange rate. Two weeks ago the euro fetched $1.104; now it is $1.159. Ordinarily, that would be healthy for U.S. stocks as a weaker dollar translates into better offshore earnings on a USD income statement. Today, it was more a sign of fund flows out of U.S. dollar assets.
Verdict: we’ll take this one as positive for equities.
6. S&P 500. Our near term target for the S&P 500 two weeks ago was 1956. Since then, there’s been a lot more technical damage, which simply means that investors are surprised they’ve lost more than they imagined possible.
Verdict: despite being 10% cheaper than a week ago, many investors will probably wait a week to see if current levels hold.
7. CBOE VIX Index. Two weeks ago we said we wanted to see the CBOE VIX Index over 20 (its long run average back to 1990) for 5 consecutive days before we thought a bottom was in place.
Verdict: three more days to go, but not a Buy yet.
8. Fed Funds Futures. If Chair Yellen came out tomorrow and said “Recent developments in global financial markets make it clear that a September rate increase would be premature”, we believe stocks would rally. That is because Fed Funds Futures still ascribe some possibility that the Fed will move next month: 24%, to be exact.
Verdict: once Fed Funds Futures give the chance of a September hike 10% or less, stocks should bottom. We aren’t there yet.
On points, 6-2 to be precise, our indicators show that U.S. equity markets are still in for more volatility in the days ahead. As for the larger issue of how the Fed responds to this bout of market volatility, well… I am sure they have a plan.
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tough job...."to raise rates or not to raise rates" day after day after day...How do i get that gig?
I laugh at the Federal reserve because all they can do is use bailing wire and chewing gum to hold up an obsolete industrial age mindset and pass the buck to the next chairperson.
The gig was up back in 1963 when Studebaker-Packard collapsed due to unsustainable pensions. The Packard plant is STILL abandoned to this day! ERISA was passed as a result. Nixon took the US off of the gold standard. The Vietnam War was to subsidize the MIC. All of the Fed Chairs listed in this article had to do their part to keep kicking the can down the road after those bandaids wore off.
Mines are dug deeper, landfills grow in size daily, and resources are consumed at completely unsustainable rates to prop up these antiquated 18th and 19th Century economic philosophies.
Collapse is inevitable. I get that. But the planet will be destroyed before the Fed will give up its power to arbitrarily add 1s and 0s to a system at will that props up obsolescence and failure.
Trick https://www.youtube.com/watch?v=U1Qt6a-vaNM
or Trick https://www.youtube.com/watch?v=GwbqWWglElg
"How do i get that gig?"
Pick jewish parents next time?
"Punched in the mouth" ? Mr. Yellen is about to get kicked in the nuts.
Yes, their plan is to by equities through their unofficial arm Citadel who is the current employer of Bernanke paying him a seven figure salary
Follow the paper.
One of the all time greatest quotes.
Whenever I use the quote I attribute it to the 20th century American philosopher, Mike Tyson. Everybody listens that way. Feel free to steal that from me, since I stole it from someone else.
Beyond that, the mess which Yellen has inherited is unprecedented.
No, she's part of the problem. Yesterday the FED followed the "playbook". They probably provided "liquidity" and were the "market maker" of last resort. After 7 years of "bailout", trillions printed, and inter-generational theft that's hard to comprehend; nothin has changed and fucking Wall Street is back to its old ways. God help us all.
This dried up cunt isn't up to the task. Why 350 million people would wait for her is pure madness.
She err.. IT is told what to do..
mike tyson for fed chair
Yellen's experience is as an Academic and a government drone. not hopeful signs.....
Be fair!… She HAS accomplished
being a female for 69 years.
The plan has always been to have women and minorities in charge when the house of cards collapses.
WHITE CONSPIRACY! WHITE MEN BE EVIL AND VISHUS! VIOLINS IS IN DEY JEANS! DEY SET UP DA LOW MINORITY TO MAKE DEM LOOK BAD. WE NEED MO' MONEY FO' DEM PROGRAMS!
Negroes. You can say it.
Inbred, mouth breathing White Supremacists. You can say it.
Good Heavens, Eirik Magnus
You don't have to say all that.
Just say "9 out of 10 'Murkins"
it's preaching to the choir here but it can not be said enough. Yellen is an errand boy sent by the Fed's owners to conflate "the economy" with maximizing the growth of debt.
Real assets will be purchased in exchange for paper and ink.
Shorter term - the "markets" are a gray box.
But the Fed needs to appear to be ding something, and also needs to start differentially hurting smaller investors relative to large ones/banks as the dollars orbit around the drain speeds up.
Rate Hike in September or soon after can go hand in hand with irrational exhuberence over the Xmas season and its debt binge.
Every indicator known, from the "strong" dollar to the flattening yield curve, is telling Janet that raising rates will put a nail in the coffin of the global eCONomy. Which means that if she does proceed with raising rates then wrecking the global eCONomy is all part of the plan and TPTB are ready for the next phase.
I was wondering when we would get to this. It's a buzzkill, but I think you nailed it.
Can't fault the logic in that. Certainly not after today's lunch.
At what point can her actions be declared, "War Crimes" ?
Calamity Janet has a plan?
Distract the angry mobs while the rest of the cronies haul ass out of Dodge.
Maybe they didn't tell her the full plan...
Put her in a pen with something that looks like her. Let them knaw it out of each other.
Every Federal Reserve Chair since 1979 … Mike Tyson … now I understand. Tyler is actually teh Ben Bernank, and the "Fight Club" metaphor of ZeroHedge is drawn from his experiences at the Fed.
Do me a favor FED and just let it burn. LET IT BURN! Before our children and grandchildren are living in your world of DEBT HELL.
Hopefully they wont be as stupid as us to follow your fucked up plans for the world when the smoke clears.
the plan is to keep stealing from everyone who works for their income via printing/inflation.
How are you going to "improve" the real economy merely by printing paper and giving it to fucking hedge funds and investment banks who invest in facebook and snapchat while public schools rot and the top schools are the bastion of the elite?
You can not.
this is all smoke and mirrors - the Fed's assessment of "the economy" is a great example of the map not being the territory.
Their map of the real economy may as well be a fuckin' Jackson Pollack painting.
In 20 years we'll have an economy based on people delivering pizzas to each other.
Well to respond to Tyson's : everybody has a plan until he gets punched in the mouth; I can only say Ali got punched by Frazier; but it made him stronger:
The rumble in the Jungle
the Thrilla in Manila
Made his legend of someone who never gave up.
He was unique.
So use another allegory.
The FED was not in the class of true Heavyweight champions; they were more Primo Carnera, the guy who became world champion 'cos he was BACKED BY THE MOB.
Thats not ALi, thats not the tradition of true grit and GENIUS.
Did you just call a boxer a genius???
Seriously????
you think athletes do not have artistic and competitive genius?
So Michael Angelo and Da Vinci were not geniuses? The Ali Shuffle was pure genius.
And Jesse Owens did not have the genius of good genes and good discipline combined to be best at the right place, at the right time?
That is a unique moment !
Genius is not just intellectual its organic; its human.
Mike Tyson, in his prime, would have utterly destroyed Ali, at any stage of his career. Ali was largely a showman. Tyson, an animal. His insightful quote, referenced in this article, was also infinitely more intelligent than any sentence the arrogant Ali ever uttered.
dr jack yellen needs her sperm count checked. not raising rates would prove she is not the man we thought she was
Isn't it amazing how a private bank founded to simply eliminate bank runs now controls the entire economy and owns 2/3 of the u.s assets,,, all from cheap paper, now even cheaper digital, made 'valuable' by government forced edict.
Guillotine the Fed. Audit the heads.
Zion is a scheme, not an ethnicity.
I hate it when a plan comes together
The Truth About Israel and Palestine
https://www.youtube.com/watch?v=iKzlh9kN4HI
When Yellen's test comes she'll fuck it up - she doesn't have the balls for the job.
Raise the rates immediately. Today if possible.
All the rate hike chaos will be lost in the chaos of the market tumble.
The Fed needs to get out of the Keynesian box.
Of course, it doesn't really matter what they do.
'Captain Hindsight' says,... WTF[!], nonsense is this?
The year straddled 1979-80-- and Volcker/Carter (1977- 81) and the prized Shah of Iran were the characters in charge, with the eminence`grise Brzezinski grinning like a cheshire`cat in the 'situation room!
This could have been prevented from happening if the USSA mann'd-up to the fact that the Shah was a tyrant back in 1975. But, as usual our foreign policy and cia/fbi missed it! The ME went up in flames, fanning the birth of ISLAM!!!
Volcker raised rates to stop this unholy creature dubbed 'Stagflation',... striving for a stronger dollar. Big fucking deal. Carter loss the election because of Volcker but, Volcker stayed on as did Brzezinski as our unelected new 'Foreign Policy Mastermind' having never been elected?!?
1987-88 Greenspan breaks USSR's back at the expense of the American public's wallets? During (1981-89/ Reagan's Adm.) this period the USSR was falling apart piece by piece and yet the USSA was caught flatfooted not knowing the dire consequences already taking place in the peripheral territories on the asian-steppes regarding the USSR? Are the dots converging?
Lastly, we get the 2007 'Bernanke Shock Treatment'? WTF[!] brought this about? Simple, it was tyme to take the Euro down a notch! 'Fuck [the] Europe[pions]. The trap was set by AIG and the $62 Trillion Dollar "Credit Default [CDS] Swaps" in every color or shade imaginable. These 'SWAPS" were meant to destroy Europe and its periphery..as they were meant to accomplished. Europe was no longer independent? We owned them!
Just ask Greece about GS's, regarding the CDS's...!
Abolish the FRBsystem and its GOD's!!!
It will be years, not days before this "Market" and "Economy" completely unfold. Events will skirt the edges of oblivion with no single catastrophic consequence. An extended catastrophy, of which the sum of the carnage remains unknown until the event is transformed into a new paradigm.
Pazuzuyellen
Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew Jew will lend to you you you you you you you you you you you you you you you you you you you you you you you you you you you you you you
Jump, Janet! At your age head first down 1 flight of stairs should do it. Jump 2 flights to make sure.