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Weekend Reading: Fed Confusion
Submitted by Lance Roberts via STA Wealth Management,
Following the Fed's failure to hike interest rates last week, the markets have been unable to gain any traction as the economic data continues to undermine the Fed's conviction of improving economic strength.
But it is not just current economic data that is the problem, but the ongoing economic malaise that has been fostered by an excessively long period of near-zero interest rates. While lowering interest rates in the short-term does support economic activity, excessively low rates for a long-period divert productive capital into malinvestments. This was a point I addressed earlier this week with respect to Jamie Dimon's misguided view of the economy. To wit:
"Of course, for the banks, Wall Street, private equity funds and all variations of capital markets, it has been an "economic nirvana." The massive infusions of capital by the Federal Reserve have flooded the financial system driving asset prices higher and forcing a misallocation of capital into increasingly risky assets. While the U.S. may indeed be "number one" for financial engineering in all forms, it is rooted in a deeply artificial foundation that will eventually disintegrate into the next financial crisis.
But while financial engineering and venture capital may be juicing the profitability and wealth of a vastly small number of the total population, it is not driving the entrepreneurship needed to spark real economic growth. As noted by Gallup:
"The U.S. now ranks not first, not second, not third, but 12th among developed nations in terms of business startup activity. Countries such as Hungary, Denmark, Finland, New Zealand, Sweden, Israel and Italy all have higher startup rates than America does....and this is our single most serious economic problem...for the first time in 35 years, American business deaths now outnumber business births."
The current surge in dis-inflationary pressures is not just due to the recent fall in oil prices, but rather a global epidemic of slowing economic growth. While Janet Yellen addressed this "disinflationary" wave during her post-meeting press conference, the Fed still maintains the illusion of confidence that economic growth will return shortly.
Unfortunately, this has been the Fed's "Unicorn" since 2011 as annual hopes of economic recovery have failed to materialize.
However, it is these ongoing views of optimism that have collided with economic realities. This is the subject of this weekend's reading list as the general confusion of "why it didn't work" has finally come home to roost.
THE LIST
1) Is The Market Holding The Fed Hostage by Matt Egan via CNN Money
“Normally the financial markets dance to the tune of the all-powerful Federal Reserve. But now the tables have turned. The Fed's decision last week to delay raising rates was caused at least in part by turmoil in the financial markets.
It looks like now the Fed is being held captive by the market -- and its temper tantrums.
'It's not just that they're being held hostage. They've actually volunteered to be hostage to the markets,' said David Kelly, chief global strategist at JPMorgan Funds.
All of this is fanning fear that Fed chief Janet Yellen and her colleagues may be trapped at near-zero rates -- the level at which they've been since the height of the financial crisis in 2008.”
Read Also: Investors Should Prepare For Rate Hikes by John Shmuel via National Post
2) Explaining The Market's Reaction To No Rate Hike by Ironman via Political Calculations
“Going into the announcement, the Fed confirming that they would begin hiking short term interest rates as expected would have produced the "zero" result - stock prices would react by essentially being flat, or trading within a relatively narrow range of noise in the absence of other news.
But, if it looked like investors would delay the rate hike to begin in 2015-Q4, stock prices would begin to rise. On the other hand, if it were further delayed to 2016-Q1, they would actually fall.
These specific outcomes are dependent on two main factors: what stock prices are today and what investor's rational expectations are for the change in the year-over-year growth rate of dividends per share that will be realized at discrete points of time in the future. The chart below, which we originally posted a week ago, shows where stock prices were at the end of the previous week, and what stock prices would alternatively be if investors focused exclusively upon either 2015-Q3, 2015-Q4, 2016-Q1 or 2016-Q2 in setting today's stock prices.”
Read Also: The Fed's Wise Decision by Scott Sumner via The Money Illusion
3) Two Bits Of Advice For The Fed by Axel Merkel via Aleph Blog
“Here are two ideas for the Fed, not that they care much about what I think:
1) Stop holding regular press conferences and holding regular meetings. Only meet when a supermajority of your members are calling for a change in policy. Don't announce that you are holding a meeting — perhaps do it via private video conference.
2) Stop trying to support risky asset markets. It is not your job to give equity or corporate bond investors what they want. If you do that, too much liquidity gets injected into the system, creating the financial bubbles of 2000 and 2007-9.”
Read/Watch Also: The Fed Kicks The Can by Robert Johnson via MorningStar
4) The Fed Just Made A Giant Mess by Ron Insana via CNBC
"In explaining why the Fed opted to hold rates steady, Fed Chair Janet Yellen said that policy makers remain concerned about slowing economic growth — especially in China — and the impact on global markets and inflation.
But then, she added that the Fed could still raise rates in before the year was out — as early as October. What?
If slowing global growth and market turbulence was a reason to pause, how likely was it, then, that all of that would be resolved by October?"
Read Also: End The Fed's Guessing Game by David Beckworth via Alt-M
5) Saved By Zero? by Bill Gross via Janus Capital
"Lost in translation however, or perhaps lost in transition to a New Normal financial economy, is the fact that while 0% or .25% or other countries' financially suppressed yields might be appropriate for keeping their economy's head above water, they act as a weight or an economic "sinker" that ultimately lowers economic growth as well.
No Model will lead to this conclusion. Only the Japanese experience of the last several decades seems to give a hint, but the aging demographics of their society is offered as a convenient excuse for their experience. Zero is never mentioned as a complicit accomplice, especially since inflation itself has averaged much the same. But models aside, there should be space in an economic textbook or the minutes of a central bank meeting to acknowledge the destructive influence of 0% interest rates over the intermediate and longer term."
Read Also: FOMC Waiting For Godot by Bob Eisenbeis via Cumberland Advisors
Other Reading
- This Isn't The Start Of A Bear Market by Cam Hui via Humble Student Of The Market
- When An Easy Fed Doesn't Help Stocks by John Hussman via Hussman Funds
- Why The Bear Isn't Over Yet by Meb Faber via Faber Research
- Latest Margin Debt Figures Suggest Bear Market by Jesse Felder via The Felder Report
- Risk Parity Was Not The Problem via AQR
- Where Junk Might Cross The Line by Jeffrey Snider via Alhambra Partners
- Government Shutdown, Debt Limit Q&A by Tyler Durden via Zerohedge
“Successful preservation of capital must overcome the handicaps of socialistic governments, supposedly to help the masses.” – Gerald Loeb
Have a great weekend.
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A helpful link for Quant-Boy in his weekend search for a new job:
https://www.google.com/#q=internet+marketing
"While lowering interest rates in the short-term does support economic activity, excessively low rates for a long-period divert productive capital into malinvestments." At what magic point do artifically low interest rates stop being helpful and start becoming harmful? What magic formula lets you know when to raise rates?
Brilliant post
The degree to which such policies should EVER be employed is seriously questionable; they most certainly will fail the intended purpose, AND be misused for exceedingly narrow profiteering (by the so-called, One Percenters)...
...when the middle class has been reamed by decades of western, completely mindless, outsourcing.
The consideration should ALWAYS have been: "Does this tangibly help the decimated middle class JOB (not inflated asset) market?".
It was ABUNDANTLY clear from past, artificially-inflated periods (Greenspan), that it does NOT, and WASN'T going to...
To this day, these fuckers MUST hold onto the old bullshit (and now Yellen's new "international issues" bullshit--a truly breathtaking blunder), lest it all implode.
Nevertheless, the Fed has so confused and screwed up what was left, post-2008, that it WILL pull the switch on rates, EVEN AS those global declines it NOW worries about (wonder where they've been on that one)--and over which it has NO control--worsen.
It has no idea what it's doing, and continues to cling to policies that do not work because they CANNOT work. You must have a healthy consumer in an economy that relies on domestic consumption for up to 70% of it's LEGITIMATE GDP.
We haven't had healthy (non debt-laden) consumers for more than TWO decades...
And the goddamned Fed should have KNOWN that.
m
The Fed does not need to listen to the negative nellies who get all their misinfomation on the internets.
What a complete shitshow...
Current dis-inflation or outright deflation is actually being caused by the fall in money velocity which is now at historic lows. Nobody knows where to allocate zero-interest bearing capital. Well done Central Banks. Feast on your unintended consequences.
The FED is not confused; they are knowingly punishing responsible savers while rewarding corruption in Wall Street & Washington.
Their goal is to crush the middle class, enrich the elites, and create modern day serfdom like the days of old.
bingo. the fed is not benevolent to the masses. they are merely beholden to the 0.00001%. they have watered the tops of the trees only. the roots are dead.
According to Itau BBA:
http://is.gd/XzTkOs
The Big Fear
Thus, Fed announcement day arrived with most equity markets up 5%-10% off the late August lows, commodity prices higher and rates priced for Fed action. The main concern coming into the Fed meeting was not that the Fed would hike; it seemed quite clear that it would not go against virtually the entire global economic policymaking community and raise rates. No, the concern was that the Fed would stand pat and stocks, rather than rally, would sell off.
Lo and behold, that is exactly what happened, and that is why we need to be very, very concerned about how things move from here. It remains unclear whether the equity market reaction to the Fed decision was (hopefully) just a classic case of buy the rumor (no hike) and sell the news, or something much worse, namely that investors might be starting to price in policymakers? loss of control – The Big Fear.
The Big Fear of policymakers losing control has been lurking underneath the global equity market for years, underpinned as markets have been by central bank support. Think of it this way: there are two global growth drivers: China and the US. Recently, the competence of the policymaking community in both countries has been called into question, suggesting a possible loss of faith in policymakers, which if true is very worrisome, thus the Big Fear concept.
Why is the Big Fear so worrisome? It’s simple. If investors lose faith in policymakers and decide that cash or bonds are a better place for their money, then stocks are likely to sell off much further. How much further? One never knows, but maybe asking a few questions might help. First, at what level does the S&P need to be for the Fed to engage in QE 4? Second, what S&P level will be considered cheap (keep in mind 2016 E estimates need to come in sharply)? I don’t know the answer to either question, but it seems reasonable to expect that the S&P would need to go much lower than the 1870 level it bottomed at in late August or the 1830 level of a year ago.
The economic implications of such a sell-off would likely be a US and global recession. Such an environment could create a negative feedback loop between financial markets and the real economy, which policymakers would find very difficult to break.
It seems clear that the Fed will not raise rates this year, neither next month when they meet again nor in December, which is the last meeting of the year. Will they raise rates in 2016? From this armchair, the odds are against it, as the forces of recession gather while the forces of reflation stagnate. On this front, one has to question the Fed's 2016 inflation forecast of 1.6%, up from 0.4% this year. The Fed’s crystal ball has been mighty cloudy for years, but this forecast takes the cake.
A look at the global economy helps explain why. Four factors stick out: excess debt, an absence of inflation, insufficient demand and excess supply of raw materials and manufactured goods. None of this is new – what is new is how the various hopes and remedies have fallen short while the problems deepen. The toxic combo of excess debt and disinflation is one powerful reason why the Fed did not move, and excess supply in commodities and manufactured items (look at the PPIs around the world) is another. The global economy needs demand-creation or production shut-ins, and to date both have been lacking.
There are small signs that the commodity complex is starting to finally adjust, with closures, dividend cuts and stock issuance in the mining sector and talks about talks in the world oil market. However, the manufacturing segment of the world economy is quite far behind the commodity segment, suggesting that China's need to shift excess production will ensure manufactured-goods disinflation for the foreseeable future.
One can wish for inflation and for the Fed to be able to hike, but one also needs to be focused on the realities of the current global economy. Where is the demand going to come from? Who is going to shut in production? Let?s look at the three main economic regions: Asia, Europe and the Americas. Asia is likely to be a source of manufactured-goods disinflation as it seeks to rebalance itself to a China that is a competitor first, a customer second. Japan's recovery is sputtering; it will continue QE while a fiscal stimulus package seems quite likely in the months ahead. Europe remains quite weak, and with the refugee issue now occupying policymakers, ECB-led QE seems the only game in town.
The Americas is a concern. South America is in a deep funk, whether it is Mexico's subpar growth rate, Brazil's political and economic travails, Andean copper dependency or the impact of weak oil on countries such as Colombia or Venezuela. All this is pretty well known.
The US is most worrisome because of its combination of still-high equity prices and a very bare policy toolbox to confront any economic weakness. How bare? Well, monetary policy is on hold, and the bar to QE4 is likely a much lower S&P. What about US fiscal policy, one might ask? Great question. Here is the only thing one needs to know about the US presidential election process: it takes fiscal policy flexibility away and locks it in the freezer until late 2017, two whole years from now. In other words, at a time when the US economic expansion is close to seven years old, with the Fed on hold, incomes flat, debt levels high, a strong dollar and absolutely no inflation, fiscal policy is locked away for the next two years at least!
By the way, the UK confronts similar issues and could possibly be a canary in the coalmine for US monetary policy – QE for the people on BOTH sides of the Atlantic perhaps? The UK's negative rate discussion is likely to move across the pond over the next quarter or so. One other way of thinking about it is this: which comes first, the end of ECB QE or QE4 in America? I would go with the latter.
How does one vanquish the Big Fear? With aggressive policy action on the demand-and-supply side. What is the likelihood of that? Exactly. Seen in this light, it makes perfect sense for investors to worry that policymakers no longer have their back, and thus they take some money off the table. One analogy is that the US economy is like a ship that has engine trouble, is drifting towards the rocks and is left to hope that the wind shifts and takes it away from the reef…. not exactly a bull-market, high-valuation tableau. Hope is not a strategy.
The lost demand by both households and industry is due to excessive compensation of government workers, whose work should either be offshore or pay minimum wage, and excessive diversion of the country's capital to unproductive uses.As long as those conditions persist demand will be elusive
Take a good hard look at what Janet Yellen has said.
It might sound like a whimper - but this is a VERY different statement of Fed policy.
She has essentially told told the market - you gambled too much, and you will take the LOSSES!!
This is no small change in direction for the Fed. It's a BIGGY!!!
Is money still being printed for military operations and the .001 %? Then they ain't confused bitchez.
The FED has been flooding banks/financial market with $ trillions of taxpayer money (QE) since 2008. Rather than being used by businesses to invest in new plants and equipment and create new jobs (productive investment), most QE money has been used to inflate asset prices, creating bubbles in: 1) stock markets- large corporations have used ultra-cheap QE funds for stock buy-backs, which reduces the number of outstanding shares temporarily increasing share prices; now unfortunately, these very companies have saddled themselves with more debt and stock which is falling in value; and 2) “trendy” real estate in SF, NYC, Boston. (new CFO of Google recently bought a house in Palo Alto for $30 million). This money has also gone into (and then exited) emerging market economies, resulting in economic disruptions in Latin America (Brazil) and Asia. Exhibit A of global economic distress is crashing commodity prices, due to slack demand (working people do not have sufficient purchasing power because unemployment is high and wages are stagnant/falling). Indeed, this is the reason why Caterpillar is having such severe financial problems.
We cannot have economic growth unless working people have more disposable income/purchasing power. FED policies have done just the opposite. The massive inflation in assets- stocks and real estate are a direct consequence of Central Bank intervention rather than “market” forces- i.e., government manipulation. The end result is that investors have no idea what the “true value of these assets should be. This is why we are witnessing such large fluctuations in stock prices (“volatility”). Buy some gold and short the market.
Good post, and correct too.
Let's not forget the headwaters of our river of economic crap: western corporate outsourcing.
THIS is THE core problem, and it has yet to abate (witness HP's layoff announcement, and coded-language "remedy" blabbered about by CEO Whitman just last week):
http://www.cnbc.com/2015/09/16/restructuring-needed-because-market-is-ch...
Whitman: "It's remarkable what's happening to our services business. As new technologies come in, we've got to restructure that labor force to low-cost locations, to much more automation than we have today," she told CNBC's "Squawk on the Street."
Anyone think she means to go from pricey California to poor Alabama or Mississippi?
Everything we see government and the Fed doing are hapless efforts to deal with the middle class disaster outsourcing created. And as you point out, what they're doing had NO chance to work in the absence of a genuine effort to invigorate American manufacturing AND American labor. Absolutely NONE. Yet they, like HP (and many others) won't stop.
Why the public continues to put up with destructive (HP) and warping (Fed and government) entities that have created, and continue to create such great harm to it's citizens is mind boggling.
Until the injured masses here get active, and demand halts to all of it, we remain a sea of economic gasoline looking for a proverbial match...
m
It will, but not on account of the FED. Quite the opposite. On the account of ............
(wait for it) .....................
Sound Money!
https://app.box.com/s/hfgvcqg7gqh7i27at6sv53ywu87lwarp