In the song “HOW” from John Lennon’s Imagine, he asks:
How Can We Go Forward When We Don’t Know Which Way we ‘re facing?How can we go forward when we don’t know which way to turn?How can we go forward into something we’re not sure of?Oh no, oh no.
This sums up the Fed speeches during the last three months as each Fed official acts to contradict the previous speech? More importantly, the fact that the Fed’s own members are confused on how to deal with the recent data releases reflects that the FED‘s own models are certainly not rocket science for rocket science has produced genuine repeatable results. Please, can the financial media stop degrading physics by referring to the Fed’s decision to raise rates as LIFTOFF for this idea of liftoff connotes rocket science and economics is anything but the real science of aeronautics.
Complicating the issue of FEDSPEAK was today’s remarks by NEW YORK FED PRESIDENT William Dudley at the N.J. Performing Arts Center in Newark on the National and Regional Economy. After reading the speech I was following the language of recent Fed presidents and felt Dudley was in his usual “dovish” mode. Toward the end of the prepared remarks I found this paragraph that left me dazed and confused:
“Normalization process depends on two factors: 1. How the economy evolves and 2. How financial market conditions respond to movements in the federal funds rate. If financial market conditions do not tighten much in response to higher short-term interest rates, we might have to move more quickly. After all, the point of raising short-term rates is to exert some financial restraint on financial conditions. In contrast, if financial conditions tighten unduly, then this will likely cause us to go much more slowly or even to pause for a while. At the end of the day, we will move short-term interest rates to generate the set of financial market conditions that we deem is most consistent with our employment and inflation objectives.”
Mr. Dudley does not define what he means by financial conditions. Is it bond yields, money market rates, equity values, emerging market currencies or the value of the dollar against all global assets? It seems that the Fed’s models include knowing what value financial assets should be in relation to Fed objectives. In my opinion it seems to SOLIDIFY the view that the May 2013 taper tantrum terrified the Fed policymakers that short-term interest rates are truly dependent on the reaction function of financial markets. This is ultimately the Greenspan PUT in a hypersensitive mode. Dudley’s speech seemed to have scared the bond market and excited the equity market. At least for today. As Kevin Warsh so aptly warned last week, the Fed needs to stop looking at the stock ticker as its barometer. It appears the Wall Street’s Fed banker believes otherwise.
*** It has been awhile since the U.S. yield curve has deserved our attention, especially the 5/30. Today the traders’ favorite vehicle broke-out above 120 basis points as the 30-year was sold hard as the stock market rallied. The European bond markets were closed today so there was no ECB buying of sovereign debt to push European yields lower and force a reallocation into the U.S. market. Patience is advised until the European bonds are trading to see if the selling of the U.S. bond market continues.
An interesting element to today’s bond selloff is that the long bond closed BELOW the Thursday low made the day before Friday’s very weak unemployment report. Even though the bond and currency markets were opened for a brief time on Friday, the thin volume resulted in more volatility and hypersensitivity to the NONFARM PAYROLL number of 126,000 jobs, half of what the market had predicted. The only positive in the jobs report was that average hourly earnings (AHE) increased by 0.3% higher than the consensus forecast of 0.2%.
The BOND and stock markets’ differing responses to Friday’s data suggests that investors view the weak jobs report as a one-off event. Certainly Dudley attempted to explain the weak report as weather impacted but many private economists over the weekend noted that the weather was not a factor. The long bond will become important tomorrow to see how it responds to European bond markets. Also, the U.S. dollar traded lower after the jobs report so Thursday’s low levels in the euro will also become important for currency and bond markets. Be patient and imagine for a moment that the markets had a sense of what way the FED was facing.
***The Reserve Bank of Australia (RBA) is announcing their interest rate decision at 11:30 p.m. CST and the overwhelming consensus is for Governor Stevens to announce a rate cut, probably 25 basis points. I will not argue with the consensus as commodity prices have been under pressure and overall investment into Australia has slowed. The RBA usually provides quality insight into the global economic picture so I will want to hear what Governor Stevens has to say about a possible slowdown in China being a catalyst for a rate cut. Traders OUGHT to be aware of the Aussie/Kiwi cross as it made 40-YEAR lows today at 1.0020, or almost par. Watch to see if the AUSSIE/KIWI trades through PAR and how it reacts after the initial reaction to any rate cut. The Reserve Bank of New Zealand will be alert to the continued strength of the KIWI in relation to its Asian trading partners. OH NO,OH NO.