Notes From Underground

In several blog posts over the last eight years I have used the words of Mao to relate to the potential issues that could cause severe disruption to the global financial system. If you listen to the narrative propagated by the mainstream financial media your concerns would revolve around North Korea, the Trump tax and healthcare plans, the FED starting QT (or else citing the Fed’s ridiculous dot plots), concerns about the potential shutdown of the U.S. government, the economic implications of Brexit, etc. The bottom line is that all the forecasters have been wrong for long as Phillip Tetlock revealed in his wonderful book, Superforecasting. The FED has been worshiped as all-knowing fonts of wisdom when nothing they have forecast has proven correct. Yesterday, Fed Chair Janet Yellen admitted that the FED is as confused about the lack of inflation as most of the prognosticators on Wall Street. This confirmed my theory that what the FED peddles IS NOT ROCKET SCIENCE.

Wall Street and its financial news outlets have provided the platform for the cult of personality that pervades a great confidence in the certainty of FOMC actions. A $4.5 TRILLION pile of assets has been aggregated on the FED balance sheet with the smugness of certainty. Yellen is not the villain, but Bernanke’s QE2 and QE3 will remain a question mark. The actions of Draghi’s ECB and Kuroda’s BOJ then elevated Bernanke’s PUT. In addition to Yellen’s admittance of uncertainty over inflation, Lael Brainard also spoke Tuesday (and Wednesday), tackling the Fed’s second mandate jobs, to task over issues of race and gender.

In her speech, Brainard suggest that the FED ought not raise too much concern about the LOW unemployment rate because strong job growth has not equally benefited all populations or geographical locations. Her bottom line is that employment can run hotter for longer in an effort to allow some of those lagging groups to partake in a greater share of the economic growth story. She said:

“In fulfilling its dual mandate, the FOMC has set a target of 2 percent for inflation but does not have a similarly fixed numerical goal for maximum employment. That is because the level of maximum employment depends on ‘nonmonetary factors that affect the structure and dynamics of the labor market,’ which ‘may change over time and may not be directly measurable.’ Understanding how close the labor market is to our full-employment goal requires consulting a variety of evidence along with a healthy dose of judgment. This approach to maximum employment has allowed the FOMC to navigate the current expansion in a way that has likely brought more people back into productive employment than might have been the case with a fixed unemployment rate target based on pre-crisis standards.”

IT’S NOT ROCKET SCIENCE!So much has been wagered on the high probability outcomes of the FED‘s models but now we are provided a sense of concern about the outcomes generated by those models. I am not a GOLD BUG, NOR AM I A FIAT CURRENCY BUG, but a great deal has been wagered on questionable models.We are all “turning Japanese” as we become members of Japan’s newest political party: Yuriko Koike’s Party of Hope. In one great regard, I am thankful to have Janet Yellen rather than Ben “QE” Bernanke in the chair.

***There were two big stories out of Germany today, which were overshadowed by Trump’s tax initiative. The slow grind of U.S. tax reform/cut will be a story to play out over the next several months. From a trading perspective, the U.S. tax package has the potential to keep equity prices elevated but the TAX Package may be important for BOND valuations, especially as the Fed embarks on QT. From a trading perspective, one of my favorite charts is the S&P/BOND ratio, which gives a perspective of just how strong equities are relative to bond valuations. The ALL-TIME HIGH FOR THIS RATIO ON A MONTHLY CHART WAS MADE DECEMBER 1999 … until today. That high was approached several times during the past 18 years, but violated. We have now broken that previous high level of 1634.8. This is just some perspective to the current valuation of the SPOOS, especially in relation to the December 1999 event.

Back to Germany. The first story was about how current Finance Minister Wolfgang Schaeuble will now become the president of the Bundestag. This pave the way for the FDP leader Christian Lindner to become Finance Minister in a Merkel-led coalition government with the FDP and Green Party. If Lindner does become FM it will retard Macron’s efforts to push EU fiscal harmonization and certainly the creation of a EUROBOND. Schaeuble has been an advocate of fiscal rectitude for all of the EU nation-states so what he will do in the German Parliament is an unknown.

I suggest this: Schaeuble/Lindner /Jens Weidmann will provide a formidable opponent to the Chancellor Merkel/President Macron financial plans. Watch the German-French 10-year spread for any hint of market concern about German reticence to provide bailouts. The spread is currently at very low 29 basis points. I would sell French 10-year notes long before I would be shorting the high quality liquid asset called bunds.

The second piece of news from Germany was a piece in the FAST FT about former German Chancellor Gerhard Schroeder was approved to become chairman of the board of Rosneft, the Russian state-owned oil major. This will have great implications for Europe’s future energy plans as Schroeder has already chaired Gazprom’s Nord Stream pipeline operations after he had approved plans for building gas-pipelines from Russia to Northern Europe. Imagine if George W. Bush was appointed chairman of Saudi Aramco. The power of Putin to gain further control and the ability to impact Europe’s economic performance means he will be able to maintain control of Crimea. It also weakens Merkel’s hand in influencing events in the Ukraine. Oh, well, put more tinder on the pile.

Tags: Angela Merkel, Ben Bernanke, Christian Lindner, Fed, FOMC, Gerhard Schroeder, Janet Yellen, Lael Brainard, Macron, QT, Rosneft, S&P/bond ratio, Wolfgang Schaeuble

This entry was posted on September 27, 2017 at 7:49 pm and is filed under Fed, Germany. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.