"This Is Not The Reaction The Fed Wanted": Goldman Warns Yellen Has Lost Control Of The Market

Tyler Durden's picture

With stocks soaring briskly around the globe following Yellen's "dovish" hike, and futures set for a sharply higher open with the Nasdaq approaching 6,000, something surprising caught our attention: in a note by Goldman's Jan Hatzius, the chief economist warns that the market is overinterpreting the Fed's statement, and Yellen's presser, and cautions that it was not meant to be the "dovish surprise" the market took it to be.

Specifically, he says that while the FOMC delivered the expected 25bp hike, with only minor changes to its projections. "surprisingly, financial markets took the meeting as a large dovish surprise—the third-largest at an FOMC meeting since 2000 outside the financial crisis, based on the co-movement of different asset prices."

Even more surprisng is that according to Goldman, its financial conditions index, "eased sharply, by the equivalent of almost one full cut in the federal funds rate."

In other words, the Fed's 0.25% rate hike had the same effect as a 0.25% race cut!

The implication from the market's reaction is that at current levels, financial conditions are poised to make a substantial positive contribution to growth in 2017, from a starting point of essentially full employment, inflation close to the target, and a sub-1% funds rate; which in light of concerns about an economic overheating due to Trump's fiscal policies is precisely the opposite of what Yellen wants. Hatzius warns that "the FOMC will lean against this, and will deliver more monetary tightening than discounted in the bond market."

It gets better: Goldman's chief economist - like virtually all other carbon-based market participants - admits he was stunned by the market reaction to the Fed rate hike. While Hatzius agrees that the general direction of the market response makes sense, "the magnitude greatly surprised us" and adds that Wednesday's price action was scored by Goldman's models "as the third-biggest dovish surprise at an FOMC meeting since 2000, at least outside the financial crisis."

And the punchline: when asked rhetoricall if "the FOMC was aiming for this outcome?", Hatzius says "No, almost certainly not."

The committee may have worried that a rate hike—especially a rate hike that was not priced in the markets or predicted by most forecasters as recently as three weeks ago—might lead to a large adverse reaction on the day, and wanted to avoid such an outcome by erring slightly on the dovish side. But we feel quite confident that they were not aiming for a large easing in financial conditions. After all, the primary point of hiking rates is to tighten financial conditions, perhaps not suddenly but at least gradually over time. And even before today’s meeting, at least our own FCI was already fairly close to the easiest levels of the past two years and this was likely one reason why the committee decided to go for another hike just three months after the last one.

In other words, whether on purpose or otherwise, according to Goldman the Fed, which now wants to tighten financial conditions (i.e., see asset prices lower) not only achieved the opposite, but has now lost control of the market.

So "how will the committee respond to this potentially undesired move?"

At the margin, it will likely make them more inclined to tighten policy. Using today’s estimated close, our FCI impulse model now implies a boost of about ½pp to real GDP growth in 2017, from a starting point of roughly full employment and inflation close to the target. So further FCI easing implies at least some risk of economic overheating—which in turn would increase the risk of recession further down the road. We expect the committee to lean against such an easing over time.

 

Our modal forecast remains for a total of three hikes this year, with remaining moves at the meetings in June and September, followed by four hikes each in 2018 and 2019. We see a 60% subjective probability that the next hike occurs at the June 2017 meeting, 10% for July, and 20% for September. We also expect an announcement of gradual balance sheet rundown in December; if this does not occur, the likelihood of a fourth 2017 hike would increase.

Of course, if the first of two, three or four rate hikes in 2017 is any indication, the market, already sloshing in trillions of excess liquidity, will simply take the Fed's next tightening as an indicator of easing, and send risk assets to even more obscene highs.

* * *

Here is the full Q&A from Hatzius on why following the Fed's 3rd rate hike in a decade, "Financial Conditions Move in the Wrong Direction":

Q: What surprised you at today’s FOMC meeting?

A: There were certainly a few dovish surprises, relative to both our expectations and our read of the consensus. First, none of the FOMC participants who projected three hikes or less for 2017 in December seems to have moved to four hikes or more; we expected two participants to move up, and some forecasters had even projected an increase in the median to four hikes. Second, the Fed’s estimate of the structural unemployment rate declined by a tenth to 4.7%; this coincides with our own estimate, but we didn’t expect the committee to make this move today. Third, we did not expect Minneapolis Fed President Kashkari to dissent in favor of unchanged rates, and we don’t think others did either. Fourth, the explicit statement that the inflation target is symmetric also came as a surprise, to us and likely others. And fifth, the statement was modified to say that the committee looks for a “sustained” return to 2% inflation.

Q: So was it a big dovish surprise overall?

A: It didn’t seem like it to us. First, the surprise in the dots, while real, seemed fairly small compared with past SEP meetings, with no changes in the median number of hikes in 2017 and 2018 or the median long-term funds rate. Second, the structural unemployment estimate moved only 0.1 point, has been trending down for several years, and is still above the committee’s forecast for the actual rate. Third, the predictive power of dissents from regional Fed presidents—especially dissents against a move that the committee is making, as opposed to dissents in favor of a move the committee has not yet made—is limited. Fourth, Fed officials have often noted that their inflation target is symmetric; moreover, the move seemed to be “defensive” in nature, as Chair Yellen noted in the press conference that it was designed to take the sting out of the recognition that there is no longer a sizable “current shortfall” in inflation. And fifth, the word “sustained” may have been equally defensive in nature, clarifying that a temporary rise in (headline) inflation to 2% or more is not, on its own, sufficient to meet the committee’s goal.

Moreover, there were also a few slight hawkish surprises. First, in the press conference, Chair Yellen declined the invitation to give much meaning to the word “gradual”; in fact, she noted that “…rates were raised at every meeting starting in mid-2004, and I think people thought that was a gradual pace, measured pace…” although she hastened to add that the committee is not envisaging “anything like that.” Second, the median pace of hikes in 2019 rose to 3½ from 3. These are minor, but they illustrate that not all the news was dovish.

Q: So what do you make of today’s market response?

A: The direction makes sense, but the magnitude greatly surprised us. As shown in Exhibit 1, our factor model for discerning monetary policy surprises from the co-movement of different asset prices scored today's price action as the third-biggest dovish surprise at an FOMC meeting since 2000, at least outside the financial crisis. (The only two non-crisis meetings that were clearly bigger were the August 2011 move to calendar guidance and the September 2013 decision not to taper QE; the March 2015 and March 2016 cuts in the dots were similar to today’s move.) And as shown in Exhibit 2, our FCI eased by an estimated 14bp on the day—about 2.3 standard deviations and the equivalent of almost one full cut in the funds rate—and is now considerably easier than in early December, despite two funds rate hikes in the meantime. Our interpretation is that markets must have been positioned for much more hawkish news than we had thought.

Exhibit 1: According to Our Factor Model, This Was a Large Dovish Surprise


Exhibit 2: Our FCI Has Reversed Most of the Recent Tightening

Q: Do you think the FOMC was aiming for this outcome?

A: No, almost certainly not. The committee may have worried that a rate hike—especially a rate hike that was not priced in the markets or predicted by most forecasters as recently as three weeks ago—might lead to a large adverse reaction on the day, and wanted to avoid such an outcome by erring slightly on the dovish side. But we feel quite confident that they were not aiming for a large easing in financial conditions. After all, the primary point of hiking rates is to tighten financial conditions, perhaps not suddenly but at least gradually over time. And even before today’s meeting, at least our own FCI was already fairly close to the easiest levels of the past two years and this was likely one reason why the committee decided to go for another hike just three months after the last one.

Q: How will the committee respond to this potentially undesired move?

A: At the margin, it will likely make them more inclined to tighten policy. Using today’s estimated close, our FCI impulse model now implies a boost of about ½pp to real GDP growth in 2017, from a starting point of roughly full employment and inflation close to the target. So further FCI easing implies at least some risk of economic overheating—which in turn would increase the risk of recession further down the road. We expect the committee to lean against such an easing over time.

Q: So what do you expect from the Fed for the rest of 2017?

A: Our modal forecast remains for a total of three hikes this year, with remaining moves at the meetings in June and September, followed by four hikes each in 2018 and 2019. We see a 60% subjective probability that the next hike occurs at the June 2017 meeting, 10% for July, and 20% for September. We also expect an announcement of gradual balance sheet rundown in December; if this does not occur, the likelihood of a fourth 2017 hike would increase. At the margin, today’s FCI move has increased our conviction that the committee will need to deliver more tightening than priced in the markets at this point.

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Joe Cool's picture

An economy is not healthy when interest rates are 1%....Did we forget this?

FrozenGoodz's picture

Did they not short pre-hike?

Looney's picture

 

This is going to be fun to watch – Trump vs. Yellen, “Thrilla in Vanila”.  ;-)

Trump Bumaye! Trump Bumaye!

Looney

BullyBearish's picture

soft slap

gentle stab

kind punch

delicate mutilation

dovish hike

...

 

Logan 5's picture
Logan 5 (not verified) BullyBearish Mar 16, 2017 9:33 AM

Maybe Yellen could try her hand at tackling global warming or running the DNC next.

 

Or maybe they could make her general manager of the Cleveland Browns.

VinceFostersGhost's picture

 

 

Moving everything into account 21214.

StackShinyStuff's picture

Clearly they forgot about BTFD.  I guess they thought it would be diffeent this time.

Logan 5's picture

Broccoli Man superhero always has the final word.

J S Bach's picture

"Goldman Warns Yellen Has Lost Control Of The Market"

WTF!  We can't have that!  We need the horrid little trolless in control of ALL of the markets.

JRobby's picture

Goldman shows a few cards here.

The wondering about Trump's Goldman picks become clearer.

Yellen is doomed. But the war will be costly. It is inevitable.

RAT005's picture

Why should she care?  Up market serves their interest, she has 0.25% in the bank for later.  Just that pesky gold and silver problem that will get smashed soon enough.

mtl4's picture

What could go wrong when you start tightening after the lowest rates in 5,000 years?!

Manthong's picture

Oh, F me.

I will know they lost control when GLD zooms back above 1770.

JRobby's picture

Yellen is a tool of the NWO. Any more credit than that is just foolishness.

Zorba's idea's picture

Market replies to Ms Yellen, Piss off...keeps pumping exit velocity. watchout below!

asteroids's picture

OK, then the FED should start shorting the market with everything it's got! If it doesn't fall, then print more money until it does! Hell, it should sell everything its been stashing away for the last 8 years too.

Douche McGoosh's picture
Douche McGoosh (not verified) J S Bach Mar 16, 2017 11:28 AM

Bitcoin is now setup and in position to totally slaughter gold & silver in teh coming months... Don't delay BUY NOW!!

https://localbitcoins.com

Never One Roach's picture

Yellen can run for NYC mayor.

 

Every other dawg is.

wren's picture

I can't put my faith in a digital currency created by mining digital bs from nothing. Yea, I get it, it's in limited supply, but I can hold precious metals in my hand, they will always be (or for the next century at least) be in limited supply, and know they will ALWAYS hold value. Digital currency with no backing is just hoodah magic, just 1's and 0's. To me, the cabbage growing in my garden has more value than a bunch of meaningless numbers. And sure, people can drive the value of numbers up high, but something is only worth what someone else will pay for it. And someone will always pay something for gold. Will someone always pay something for digits?

I get my own gold and silver so it's not like I'm out anything but good times in the outdoors while people are holding up in basements surrounded by computers draining bandwidth and the power grid to create numbers.

I can see the appeal of bitcoin, but in the end, it's just another game mimmicking real money. It may last another year, another decade, or another century, but real physical assets will always hold more value to me than digital hoodah. Who knows, it may last forever, but so will the value of precious metals and bullets. And precious metals and bullets will definately last forever. Bitcoin is a maybe...

Verniercaliper's picture

Global warming and reviving the Deomcratic Party are solvable problems.....but the Browns? No way.

bamawatson's picture

read yesterday they are courting geno dindunuffian smith
typical
cant think of a worse choice; so he may be the guy

((romo already said no no))

espirit's picture

Too bad the trading algos were programmed in Newspeak.

That 'Gartman Short' 2x inverse ETF really paid well. 

CPL's picture

That's probably the best idea ever but x3

GunnerySgtHartman's picture

Is it possible for this market to become any more detached from reality?  I'm not sure that it is.

GunnerySgtHartman's picture

I apologize for being late to the party.  ;-)

NoDebt's picture

Everybody has to have that moment when you realize, with no small amount of shock and horror.... there are no markets.  The "market" is nothing but a policy tool, just like Dr. Engali always says.

 

VinceFostersGhost's picture

 

 

Clearly irrational exuberance!

NugginFuts's picture

That's a painful reality to accept, but undeniably true....

Victor von Doom's picture

Yep, no markets - just central dictat from the local zio politbeauro.

Smedley's picture

Gotta keep the Pension Ponzi scheme going....

:D

ThirteenthFloor's picture

Now they're saying "did expect that", the last excuse is "I guess we were wrong", that's when you take cover.

Whenever prime interest rates are below inflation money is transferred to the elite from the working classes. But alas, the moron millions continue on.

Joe Cool's picture

No matter how much 'Soviet Style' propaganda they throw out....Less people believe it as we move forward....

Who watches TV anymore?

lil dirtball's picture

> Who watches TV anymore?

All the Trumptards on ZH, at least. Tho, there are fewer of them here since the selection ... it's getting harder for them to continue to shill for him and his Goldman gang.

Joe Cool's picture

Every time I even look at a TV screen these days (even at Banks/Restaurantss etc...) I get a deep sick feeling....

I think my inyards are telling me something

lil dirtball's picture

They are.

It's 'cause you woke up and broke the control. TV is hypnotic and once the spell is broken, it's hard to recreate. I haven't had TV in almost 15 years and can no longer be around it as the constant flashing and changing noises make me anxious. Once you spend >30 days away from it, it's easy to see how sick it is.

There are a few YouTube people who do really good vid's breaking down the symbolism and brainwash in TV commercials - worth watching if there is any doubt that the trash on TV is bad for humans.

Joe Cool's picture

Throw in Bad Food/water, Electric noise, bad education/ Smart phone addictions/Drug/pharm addictions/Vaccines, chemtrails and god knows what else....Is it any wonder people are going batf##k crazy these days....The "average person" is certainly less intelligent now than 20 years ago....No doubt about it....

ThuleNord's picture

Couple that with the fact intelligent people now have about 1 child to every low IQ Neanderthal's 4 and the general IQ of our entire nation is about one generation away from complete collapse.

Sheeple, one and all. Precisely how they designed it. Moar welfare please.

BigFatUglyBubble's picture

Yup lildirt, here's two link I found useful: http://tvsmarter.com/documents/brainwaves.html

And this one is not scientific but I think it's true, and the background song is great: https://www.youtube.com/watch?v=ac9nsXwwzYo

It's gotten worse, wasn't as much hypnotic crap in the 90's

 

Mustafa Kemal's picture

ld you are correct about TV, but wrong about Trumptards. I havent watched TV since 1968. Read alot of books and ran alot of miles though. 

Wondering when they are going to come up with 

Kill Your Iphone

bumper stickers.

general ambivalent's picture

My parents were total TV addicts, 8 hours a day - on during supper and everything. And I fell for it because we lived in the middle of nowhere with nothing else to do. Took me a long time to break that habit. I still like movies and some youtube channels, but for the most part I would rather read or go to the woods.

I know exactly what you mean about the chaotic flashing of cuts every second or so, cannot watch that trash. Also, I find it quite sad to think of all the hours lost to watching ads, basically like a form of tax on your mind. No wonder TV addicts tend to be the most brainwashed people, they're basically handing over 33% of their mind for each show they watch.

general ambivalent's picture

TV is great when you haven't watched it for a year and then turn on the news. It's a horrifying trip and never ceases to amaze me how things can still manage to get worse.

FreeShitter's picture

Plenty of trumptards here at night....seems like every other one.

VinceFostersGhost's picture

 

 

I love carrier criminals myself.

 

How much have you given to Haiti.....errr......I mean Hillary?