As investors in the US and around the world confront the fact that the Federal Reserve is never really out of ammo, One River Asset Management Founder Eric Peters joined Erik Townsend for an interview on Townsend's weekly MacroVoices podcast, which features in-depth interviews with portfolio managers and prominent figures in the wealth-management industry.
Markets finally rebounded last week after the fastest, most brutal selloff in modern history, a selloff that was inspired by the realization that half the world would need to stop to prevent millions from dying and hospitals from being absolutely overwhelmed like they were in Wuhan.
Fueling the enthusiasm, late last week, just before Peters' interview, the Fed unleashed its latest program: a $2.3 trillion program that expanded liquidity to small businesses and municipalities alike - or at least that's how Jay Powell marketed it.
With the Fed's balance sheet on its way to $6 - and then $8 - trillion, Townsend asked Peters what he suspects will be the ultimate result of Powell & Co's repeated interventions in credit markets, interventions that the market has come to depend on, especially now.
Whether or not the central bank's decision is setting us up for an even more dramatic reversal later on no longer seems like a matter of speculation. The rapidity with which the market unraveled in March - erasing three years' worth of artificially inflated gains in three weeks - is evidence of what happens when artificial supports finally give way, leaving chaos in their wake.
But at this point, actually swallowing the medicine is almost too painful a prospect to contemplate. Peters pointed out that it wasn't just stocks that crashed. At points, corporate debt and gold have gotten hammered - the selling hasn't been constrained to stocks.
The fact that the market was only 25% shows just how potent the Fed's market interventions have been: Peters believes the drawdone in US equity benchmarks would have been "at least 50%" and possibly as much as 80% if the central bank had sat on its hands.
So you have a very leveraged economy. And all of a sudden, because of this catalyst (meaning the virus), people needed to gross down quickly. And so you had way too many people selling essentially everything, which is why you saw not only stocks fall but you saw bonds fall, you saw gold fall. Everything fell all at the same time. And if the Fed had not come in and drawn a line underneath that with the policies that they implemented, we would have seen a crash that was far worse than what we’ve seen. I think we had the US equity market fall 35% from the highs or something like – it may sound dramatic, but it was only down 25% on the year. So I think, just unambiguously, we would have been down at least 50% and perhaps 80% had the Fed not done what it did.
Why? Well, the logic behind Peters' supposition is pretty straightforward: the central bank's massive liquidity injections led virtually every private market participant to become a buyer.
And when the shock came and everybody turned to sell, the people at the controls suddenly realized - oh wait - there's nobody to sell to. So the Fed needed to step in.
After all: "If everyone is overleveraged and they all need to gross their books down in one way or another at the same time, there literally is not a buyer. There is just no buyer. There is no strong hand out there. There is only one hand and that was the Fed."
"So that’s what they did."
And again, these losses aren't really an exact reflection of the virus's impact on economic fundamentals and therefore corporate earnings...this is simply a reaction, like the release of a slingshot. Because the truth is, the Fed set the stage for this reversal ten years ago in the aftermath of the crisis. As Townsend and Peters discussed, the outbreak was merely a catalyst for losses that probably would have been inevitable.
Though the coronavirus was probably about as bad as it gets for equity bulls.
Listen to the whole interview below: