RBC: "The Fed Is Now Forced To Walk Back The Market's Incorrect Dovish Interpretation"

Tyler Durden's picture

First, it was Goldman's chief economist Jan Hatzius, who in a fascinating note explained why the market has totally misread the Fed's tightening intentions, claiming the market surge is "not the reaction the Fed wanted", alleging that the market's dramatic "easing" response was "not the outcome the FOMC aimed for" and concluding that "at the margin, it will likely make them more inclined to tighten policy", a polite way of saying that the Fed may now not be behind the inflationary curve, but that it is certainly behind when it comes to "explaining" to the market that it has run ahead of itself.

Now, in a follow up note, RBC's head of cross-asset strategy makes the exact same point as Goldman, and warns that "the Fed will now view the market response as an ‘overshoot,’ and will perversely be forced to ‘walk-back’ the ‘incorrect’ dovish market interpretation with more hawkish rhetoric in coming weeks / months that will again whipsaw the rates market and likely-drive cross-asset vol higher."

And since Goldman still has a direct hotline, both literal and symbolic, to former Goldman employee Bill Dudley who is in charge of the NY Fed, it would not be surprising if during the Fed's next public appearance, an FOMC member makes it very clear that having both of its core original mandates, inflation and emloyment, supposedly under control, it is now taking on the 3rd one - preemptive market stability, by making sure that risk assets are halted in their bubbly tracks.

Below are the key excerpts from today's note by RBC's Charlie McElliggott:



  • Despite hiking, the Fed missed a major opportunity to play “catch-up” without disrupting the market—as price-action showed that investors were clearly prepared for ‘hawkish’ outcomes.
  • Instead, the FOMC / Yellen’s commentary (in light of the above ‘hawkish positioning’ dynamic) actually created EASIER / LOOSER financial conditions, with real rates collapsing lower on the session.  This will make the eventual exit-process that much more difficult—thus, “more rope to hang themselves with.”
  • With Yellen noting that the Fed intended to keep its policy accommodative for “some time”—in conjunction with the overly simplistic market take on the lack of movement in the average dot (FAR more nuanced than that) and the ‘hawkish’ buy-side positioning--the Fed also created significant (under)performance frustration across many strategies yesterday, with the exception of a 2 standard deviation ‘+++’ day for many risk-parity portfolios (which essentially run ‘short convexity’ long only cross-asset books, which are now likely to be in-process of ‘levering-up’ off of the ‘vol crush’).
  • For the above reasons, I believe the Fed will now view the market response as an ‘overshoot,’ and will perversely be forced to ‘walk-back’ the ‘incorrect’ dovish market interpretation with more hawkish rhetoric in coming weeks / months that will again whipsaw the rates market and likely-drive cross-asset vol higher.


So the Fed hiked….and nominal rates gapped lower, breakevens traded higher, real rates collapsed, and financial conditions LOOSENED.  Why?  To me, the moves were largely positioning-related, being caught wrong-footed inherently with regards to ‘expectations.’  I do not believe the Fed intended this to be a dovish message, and they are going to have to clarify this to the market in coming weeks, in turn risking / creating more volatility.  There is a fixed-income short / ED$ steepener to be laid-back-out soon. 

To sum up the ‘by-and-large’ client reaction to yesterday’s post-Fed response (with a touch of relief from the Dutch election sprinkled-in) on a scale of 1 to 10, I’d say the buy-side gave it a “MEHHH.”  Optically and absolutely, yesterday WAS of course a day of positive performance for many funds long risky assets, considering SPX +20 handles, EEM +2.6% (+2 SD move), IWM +1.6% (+2 SD move), HYG +1.4% (+3 SD move), LQD +0.9% (+2.6 SD move) et cetera. 

Instead though, it felt ‘empty’ or like a missed performance opportunity for many, because despite your longs doing ‘okay,’ many of your shorts were up just as much, if-not-more.  And regarding the longs, the stuff that did ‘really well’ yesterday is generally underweighted OR in many cases, has recently been pared-back (i.e. cyclical beta equities).  Case-in-point, look at this example within the equities space:

  • HF VIP Longs + 0.7% against HF VIP Shorts +0.7%
  • High HF Concentration +0.9% against Low HF Concentration +1.0%
  • MF Overweights +0.6% against MF Underweights +1.0%


This was an interesting rally because it looked like the old “QE”- varietal, where the interpretation of anything ‘dovish’ (in this case ironically it was a dovish HIKE via a simplified read basically that "unch on median / average dot" countered the recently hawkish momentum / rhetoric / data) actually sent UST's sharply higher (TY largest ‘up’ day since June ’16) / rates sharply lower / USD sharply lower (BBDXY a -3 SD move lower and largest ‘down’ day since July ’16).  Real rates lower = easier financial conditions = Risk-on, Vol smoked = ‘short convexity’ vol trigger strategies likely driving mechanical re-levering.

The real news to me in the Fed message was two-fold:

  • First, the dot shift was beautifully spotted by Mark Orlsey and Tom Porcelli going-into the event.  Looking at the simple scale of the absolute move in the average- or median- dot simply doesn’t ‘cut it’ in the case of “what is to come”—it is far more nuanced.  As such, the takeaway I think the market has initially-missed was the fact that the marginal dot ‘shift higher’ came from the bottom of the plot—i.e. IT WAS THE MOST DOVISH FED MEMBERS WHO UPPED THEIR DOTSThis dynamic is going to have to be ‘trued-up’ in coming months considering the data trajectory (new 5 year highs in Bloomberg US Econ Surprise Index yday) and is likely to be a source of interest rate-driven cross-asset volatility.
  • The second notable takeaway from yesterday was Yellen’s very modest backing-away from prior comments made from Fed officials regarding an absolute-level FF rate (1.00%) acting as a ‘trigger’ for cessation of reinvestments to shrink their balance sheet.  This is important bc again, Fed members have made this a point of focus going-forward, and their time-horizon window is shrinking now.  From a markets perspective within the mortgage space, losing the ‘buyer of last resort’ (into the daily Fed buybacks) will cause ripples, because if rates are going higher against you as a MBS trader—which is inherently a negatively convex product—you HAVE TO hedge by hitting TY.  This is a down-the-road discussion (now a 2018 story), but again will be a source of rate volatility in the future that could be ‘disorderly.’

Regardless of the medium- / long- term potentials…as such with the rates collapse lower on the day, duration sensitive equities were a large part of the equities leadership—e.g. defensives, divy yielders, low vol types like reits, utes, telcos (outside of energy sector with crude's relief rally), while mega-allocations in tech, consumer discretionary and financials were, relatively speaking, 'dead weight' and lagged index.  Of course too, the other leadership driver in stocks was the ‘reflation stuff’ that’s been ‘getting pitched’ over the past month like steels, metals & mining, oil services, E&Ps, high beta materials and industrials etc.  That stings for the majority of equity funds with regards to their current sector allocations, long ‘secular growth’ after reducing a fair bit of their 'cyclical beta'‎ / value exposure in 1Q17. Much of yesterday’s leadership was curious ‘late cycle’ stuff, which o/p ‘early cycle’ by an astounding~140bps:

Obviously, the above dynamic is especially frustrating for many equity HF's.   When you see the broad SPX tape + 0.8%, Russell 2k +1.6 and R3k‎ +0.9% but as a long / short you were only able to eek-out 40bps to 50bps simply due to you net long exposure, it stinks.  Even worse, mkt neutrals strats which simply don't work in 'gap higher' tapes. ‎

‎Bigger picture macro, the rates move spanked fixed-income shorts, while the Dollar crush crunched longs (especially against GBP, EUR and select EM).  Another “ouchy.”  And think about the initial "trump reflation" worldview themes from 4Q16 where it was Emerging Markets that was viewed as the "biggest loser"...and now is the "high flyer" (EEM +12.3% YTD) as the protectionist rhetoric is ‘walked-back’ (Navarro comments yday) and some thinking (benevolently) that US growth is soon to be the "higher water which will raise all boats."  Long EM over DM is now one of the most popular strategy calls going, FWIW.

But was yesterday really about US growth—was that really the case‎?  I'd say that in light of the recent ‘trend trades’ and positioning dynamics, a day where you see fixed-income, (long) duration-sensitives, defensives, low vol, late cycle and EM leadership ‘run higher,’ it speaks to folks looking to buy the 'stuff that's been left behind" in a classic “PM exposure grab” style, yelling to his trader "find me some cheap stuff!"  More "lottery ticket" mode than anything else, as evidenced by GDXJ (Jr Gold Miners ETF) finishing +11.5% higher on the day yesterday--a +3.1 SD-move. ALL OF THE LULZ.

As far as the current framework / narrative we’ve been operating under since midyear ’16, it shouldn't be lost on anybody that this wasn't a “higher growth = higher nominal rates = equities rally" which has obviously been the story of all global markets since secular lows for rates were put in last summer.  It was instead an ‘easier conditions,’ central bank driven rally of old QE-era.  As described above, this felt a lot more like “...greedy, not growth-y.”  

I think there's an important message in there.



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Looney's picture

... Forced To Walk Back The Market's Incorrect Dovish Interpretation

Let’s watch Yellen’s trying to put that "dovish"shit back into her ass.  ;-)


knukles's picture

They clearly don't know what the fuk they're doing
Last one at the Fed who understood and toldja exactly what he was gonna do was Volcker.  No ambiguities.
After that, a buncha political academic hacks.

Bastiat's picture

I guess "Walk back the market's dovish interpretation" means: stuff gold and silver prices back in to box.

evoila's picture

They needed to hike 50 bos if they were serious about a gradual cool off.

WokeNews's picture


Looney's picture


If your Jumping Boychik needs circumcision he can use my Driver's License picture.  ;-)


mtl4's picture

Can't raise those rates fast enough, been dovish far too long and markets have completely lost confidence........keep up the great work FED!  Watch markets continue to rise despite their rate increases until finally reaching the rate increase that broke the camel's back and down it all comes in one big overshoot.

Consuelo's picture




Alan GreedSpank...!!!!

ejmoosa's picture

New id SAME bs.

Skip this one friends...

Umh's picture

Always check links before clicking on them. With most browsers just hover over the link and check the URL shown on the bottom of your screen.

ejmoosa's picture

It's only hawkish if they really mean it.

And as Yellen said, nothing is set in concrete.



Dr. Engali's picture

I guess they've never heard of a sucker's rally.

Soul Glow's picture

GDP dataa is noisy, even at all time highs stocks can't bring a real rate hike, the Fed doesn't want reasons to hike, they want reasons to lower the rates, for they know the UST is bankrupt and needs fresh funds.  They will walk this back after they get a market correction.  They'll blame Trump and print.  It's the only game in town.

hotrod's picture

DATA DEPENDENT.  Except for GDP which is "pretty noisy"

Pitchman's picture

Many both within and beyond America's borders labor under the delusion that US policy is determined by the nation's elected representatives amid a careful balancing act between the judicial, legislative, and executive branches of government. In reality, the inner workings of US policy resemble nothing of the sort.


Exposing the Real Deep State


Soul Glow's picture

Funny how overlooked the cognitive dissonence in the markets are.  The Fed stands pat for years while saying the economy recovered, then hikes into weak data, and everyone questions the hike, but not that rates are still near ZIRP.  I want to be reading the name Kashkari more.  This is the asshole that bailed out the banks, got a Fed Chair, and dissents because of said data, but doesn't have the spine to admit rates should have been higher years ago.

The Fed data, although bad, also contains lies.  The BLS report is one big lie as the Trump admin does nothing to change U-3 to U-6, the inflation rate is still under reported, and so rates are kept down.  A 25 bp hike?  Are you joking?  This is nothing.  Rates should be above 4% to catch even a bit up to inflation.  Until we are having this discussion we shouldn't be taking about hiking into poor data.  Obviously the Fed was waiting for poor data, so they could walk back the hike, go back to ZIRP or NIRP, and issue moar QE.  When you are all out of real money the only option left is to borrow even moar.

Sick Underbelly's picture

So, the pivitol question here is:  if BLS is telling lies and "the inflation rate is still under reported", then how do you calculate the "real" value of inflation?

Without that, how do you come up with "[r]ates should be above 4% to catch...up to inflation"?

Please, show how to calculate the "real" value of inflation.

Soul Glow's picture

Easy when it comes to UE.  Use U-6.  It's twice as high as U-3.

As for inflation housing prices and rent are not included.  Look at housing prices and you can see inflation is running rampant.

Grandad Grumps's picture

Why? Does the Fed want to collapse the market and just screwed up?

Maybe the real issue is that the Fed has been lying the entire time and no one trusts them.

For the Fed to do what it has traditionally done, there must be a level of mysticism and trust in the Fed. There is neither. The Fed is known to be a parasitic criminal organization. Its controllers are evil and are trying to destroy humanity... after already having enslaved humanity.

Only individuals who can spiritually fight off the controllers will be powerful enough to save humanity. It was done before, many years ago, when humans were experiencing a cyclical peak in spirituality.

adr's picture

The issue is The Fed has the real data. They have the real unemployment numbers, real GDP, true inflation,  and real debt loads. 

They aren't blind to the real economy and they can see the further depression they are putting us in. 

Incomes have declined and prices have skyrocketed. Interest rates should have gone to 12% four years ago to stem inflation, but they didn't. 

80% of America is now priced out of the economy and you require $100k a year to live at a level $35k afforded 15 years ago. 

J bones's picture

Step towards ending the fed?? Maybe??

As in after a meltdown and all the fingers point at them maybe just end them!

silverer's picture

The Fed has failed. But the rich folks like it. Depends on how many guns get locked and loaded by the basic citizenry, I suppose.

buzzsaw99's picture

incorrect my ass. just 3 days ago RBC was telling us to buy VIX. fuck them and their royal shetland pony too.

pebblewriter's picture

If the Fed doesn't want investors to misinterpret their position, they should stop crushing VIX every time Yellen opens her pie hole.


adr's picture

I think I want to move to Bulgaria or Hungary. I think they have some semblance of a real economy there. 

I'm tired of making real shit that sells only to have my company's value eclipsed 1000 fold by a company that makes no profit and has no viable business model like every silicon valley unicorn. 

Amazon is worth a few hundred billion dollars even though the profit my company makes in one year is more than what Amazon made in 20.

silverer's picture

What will become more important than the economy in coming years is a society that maintains its roots, culture, and values. Germany, France, Sweden, etc., are in a process of destructive change, good economy or not. Hungary has made a decision to protect its citizens and its culture. Smart move.

spastic_colon's picture

this is exactly the interpretation the fed wanted........bugger off RBC

missionshk's picture

the markets are completely rigged..  noone listens to the fed at all.... everyone is just happy that the Unfed has in a small way stopped manipulating the evil negative interest rate scheme..




Go team USA,