Fed's Dudley Had Some Worrying Remarks During A Closed-To-The-Press Session

Last week, Bank of America became the latest bank to wonder if the Fed, no longer even remotely data-dependent, is now hiking rates for no other reason but to burst what increasingly more are calling a risk bubble, to wit:

"Can it be the case that its hawkishness was prompted by something other than its reading of the economy? For example, is it possible that the Fed has become concerned about the recent surge in the equity market, especially tech stocks that has been feeding off low interest rates and low volatility? According to our equity strategists, the P/E of the tech sector (19x) is currently at its highest levels post-crisis while the EV/Sales ratio is at the highest since the Tech Bubble"

Overnight, CLSA's Valentin Marinov, after reading the latest BIS report, echoed BofA's assessment, as follows:

The BIS annual report released over the weekend will likely go down in history as the first official document to focus on the changing reaction function of global central banks against the backdrop of continuing cyclical recovery but persistently low inflation. In particular, in the report the BIS has encouraged the major central banks to use every opportunity from here to cautiously normalise policy. This will give the likes of the Fed a room to manoeuvre in the event of renewed economic downturn.


In other words, the BIS report has corroborated a conclusion that we have drawn and written about recently, namely our observation that the Fed in particular will continue to normalise policy in part because it wants to amass rate hikes which can be used to fight the next recession. This conclusion is consistent with the fact that, so far, the Fed has largely taken the recent disappointing US inflation data in its stride, signalling steadfast determination to normalising monetary policy further.

And while these non-FOMC opinions were clearly troubling for risk assets, as they suggest that the Fed - without admitting it - will keep hiking until stock prices drop, a confirmation that BofA, CLSA and many others before them are right, came from none other than Bill Dudley who speaking at the Bank for International Settlements' Annual General Meeting in Basel, confirmed that the Fed is now almost entirely focused on the market's financial conditions, which have eased to two year lows despite the two rate hikes in 2017...

... and that the recent narrowing of credit spreads, record stock prices and falling bond yields could encourage the Federal Reserve to continue tightening U.S. policy.

"Monetary policymakers need to take the evolution of financial conditions into consideration," the second most impoortant person in the Fed, former Goldman employee Bill Dudley, said on a closed-to-the-press panel on Sunday whose contents were disclosed moments ago.

"For example, when financial conditions tighten sharply, this may mean that monetary policy may need to be tightened by less or even loosened.  On the other hand, when financial conditions ease—as has been the case recently—this can provide additional impetus for the decision to continue to remove monetary policy accommodation."

There was more in the full speech (link here), but the gist was clear: the Fed is no longer hiking conditions in response to the economy, but to tighten financial conditions, of which the biggest contributor by far is the stock market.

Said otherwise, the Fed now wants stocks lower and will keep hiking rates until the market reacts accordingly.