We can say that the markets are afloat in the Sargasso Sea: The home of the doldrums. It is quiet and listless as the market awaits the winds of change. But from where does the whispers of wind arise? A piece by Jon Hilsenrath in the June 3 Wall Street Journal online (h/t R.F.). The Hilsenrath piece cites Fed officials who are worried about the tranquility presiding in the markets and the possible financial risk that arises from complacency. Hilsenrath cites the low spread between investment-grade corporate debt and U.S. Treasury bonds, the lowest since July 2007. Also, homage is paid to the recent lows made in the VIX and its 74-week run below its long-run moving average. Increased global political risk has barely budged the needle on various other risk barometers.
If Hilsenrath is the conduit of the Fed communication,then the Fed is letting investors and traders know that the Fed wants some volatility so as to allow the risk to be priced into the market. Too much stability creates it own instability (Minsky). The Fed wants to let repricing of risk take place so as to impart some fear into asset prices. Why should the markets care about the musings of Fed Presidents and governors through the chosen mouthpiece? Some are comparing this June piece as equivalent to Ben Bernanke raising the issue of Fed Tapering last May when Congressional Testimony by the Fed Chairman caused stock and bond markets to sell mode as complacent markets were forced to reprice risk. The Fed stepped back from its tapering timetable in response to market volatility, but Bernanke was able to experiment with the Jeremy Stein concern about markets mispricing credit risk. Bernanke was able to create market volatility in an effort to minimize the fears of Governor Stein.
There is a FOMC meeting next week and some analysts believe that the FOMC will raise the idea of an earlier Fed rate increase then last projected in an effort to remove the market’s complacency over the Fed’s timetable for raising the Fed Funds rate. The greater problem for the Fed is believing that they control the global financial markets–short term success should not be representative of future outcomes.
***Tomorrow at 4:00 p.m. CST the Reserve Bank of New Zealand will announce its overnight interest rate. The market is looking for an increase in the rate of 25 basis points to 3.25%. At its last meeting the RBNZ raised rates even as it warned over the high value of the KIWI. The NZ currency has held its value although recently it has weakened against the Aussie dollar. The RBNZ statement will be important to see the bank worries about N.Z.‘s relatively high yields leading to increased capital flows in an interest-rate starved world. Will the threat of appreciation be enough to forestall the RBNZ from raising rates–especially, after the move by Mario Draghi last week?