Notes From Underground: The Umpire Strikes Back

The Fed chairman is situated as the key arbiter of the economy and rules via its DUAL MANDATE. Given that it has a research staff of at least 500 economists the FED positions itself as ALL KNOWING, which is certainly okay as long as it accepts the consequences and lays aside the use of counterfactuals when its policies may turn out to be very misguided.

On Wednesday, investors judged the FOMC statement as a tad more hawkish than the Street anticipated. More importantly, at the press conference Chairman Jerome Powell positioned the FED as being comfortable in forecasting that growth for the coming year would be more ROBUST than the current stock market behavior is suggesting. In my opinion, Powell’s answer to the very astute Washington Post question about the ongoing balance sheet unwind was the tipping point for a greater read into the FED sustaining its current monetary policy path.

Powell followed the work of SOMA overlord Simon Potter by maintaining the runoff process was proceeding smoothly, even with the FED raising interest rates. The Fed Chairman sent a message to the markets that he is in fact the new Sherman McCoy: The Big Swinging Dick (see Bonfire of the Vanities by Tom Wolfe).

The FED chairman let President Trump and his minions Larry Kudlow, Steve Mnuchin, Peter Navarro and others that he is charge of monetary policy. As discussed in Notes From Underground several months ago, Powell is on a mission to increase risk premiums on an assortment of assets in an effort to let the air out of elevated asset prices brought on by QE. The bottom line is that Powell doesn’t give a lick about sustaining what he believes are mispriced assets. More importantly, Powell sent a message to major Wall Street commentators Kevin Warsh and Larry Lindsey that their opinions are exactly that: their opinions. President Trump must be suffering a severe bout of agita that he didn’t select Kevin Warsh as FED Chair.

The hawkish tone did what was expected: The yield curves flattened in response to the failure to present a dovish tone going into the New Year. The DOLLAR turned and rallied and the early strength in GOLD gave way as the flattening yield curves put a bid to the DOLLAR. I don’t fade markets in general but I am going to test my theory about the growing U.S. deficit by putting on some 5/30 steepeners against the 200-day moving average, which touched 32 basis points.

This will be a small risk because liquidity-wise the holiday markets are thin. The lack of liquidity is a cost of business and increases the risk of all trades. Powell is to be commended by being tone-deaf to the stock market, but going into 2019 the issue of a growing deficit in a full employment economy will be a harbinger of increased market volatility. Be prepared for Cramer and the punditry to assail Powell at every turn. But at this juncture, Powell is doing a Maggie Thatcher: He is not for turning.

***On Wednesday evening the BOJ will announce its decision about rates and QQE. Recently, the deputy governor of the BOJ gave a speech raising concerns about the continuing struggle to combat the onset of deflation. Expect the BOJ to be very DOVISH although with the FED‘s action it will probably be tempered a bit. But the BOJ is openly battling against deflation. On Thursday the Bank of England announces its policy  and like Rhett Butler, I don’t give a damn. Governor Mark Carney has been so wrong for the last two years in his forecasts, and, with BREXIT on the front burner the BOE will make no changes. As always, know your risk parameters before you trade. Be ultra cautious because of the lack of liquidity in the year-end markets.

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13 Responses to “Notes From Underground: The Umpire Strikes Back”

  1. David Richards Says:

    “Be prepared for Cramer and punditry to assail Powell at every turn”
    Theatrics began instantly, lol. (maybe a bullish contrary indicator?)

  2. raymack1999 Says:

    Always love your work. Yra. Not only did the umpire strike back he may have ejected the manager. Trump kicked dirt on his shoes and Powell was having none of it. Stay tuned in Q1 for the Return of the Fedi.

  3. AZRondo Says:

    So, does that strengthen the dollar? The 10Yr yield drops into the 2.7’s; will longer dated yield go opposite, since risk assets are getting hammered? (I think so). Therefore, as a guy who once was a corporate leader, but chose to OUT a crook (who with 4 or 5 of his accomplishments lost their jobs too) and then other aspects of life interfered with what looked like a comfortable retirement, and now lives just a wee bit above poverty level, I understand the reality of being a sucker for saving, and what then low rates after a market implosion does to those living off savings and 51 years of SocSec input. YUP, ’61 to 2012. Of course, being smart and hard working just proves that I was a sucker for turning down a GS11 position right out of college, but I couldn’t stomach being one of the “nomenclatura” that I already understood was what they wanted of me. Thanks, Mr. Powell.

    • yraharris Says:

      AZRondo–these will take time to play out but the FED and others do not take issue with the 800 pound gorilla in the room—massive government debt and growing in a full employment economy—anybody buying long term debt for more then a trade is the sucker at the poker table

  4. Richard H Papp Says:

    My daily 4 X 12 point and figure chart of the UST Long Bond is at an interesting juncture. At yesterday’s close, 19 Dec, the cyclic rally in price stopped at the downtrend line that originated from the top in the summer of 2016.
    As to gold, the yellow metal has nearly retraced 50% of the fall from the 1360 area to the low of 1160 over the last 12 months. How the metal trades around this area will be significant.

    A great 2019 and beyond to all.

    • yraharris Says:

      Richard—very good piece and on the Gold –more then interesting analysis and especially so in the face of flattening yield curves—I am paying attention to this development this morning

    • Don H Says:

      Unless GC finds & holds a bid above 1255 that carries it up through 1300; the level you mentioned will continue to be near term resistance…imho

  5. Richard H Papp Says:

    For the newer folks who do not know the 50% Principle you can look it up in the 1960 text book by E. George Schaefer “How I Helped More Than 10,000 Investors to Profit in Stocks” Chapter VIII
    As the decades rolled on Richard Russell (R.I.P) in his Dow Theory Letters frequently sited the importance of the 50% Principle.

  6. David Richards Says:

    The dollar also bears watching and continues to look weak despite the Fed, which merely delayed further $ decline for a few hours.

    The dollar DXY, having been twice rejected at 97.8, the 618 fib retracement of its Dec.2016 – Feb.2018 decline, is now approaching the convergence of the 50% pt of that decline, a key MA, and the median TL of a pitchfork on my daily chart. See whether that provides any support to the falling dollar, at least temporarily.

    Euro, despite its problems, looks strong against USD and remains bullish from 1.13 but faces resistance around 1.15 as DXY is nearing support, the EUR and DXY being fairly reciprocal. Eventually EUR should break higher toward 1.18-1.20 as I’ve been saying (patience)

    More interesting has been the EM FX, many of which have been sharply rising against the dollar (and all DM), not just this week but also month-over-month. If you’d known in advance that US equities were going to crater and credit markets shudder and that the Fed would nevertheless hike and be less dovish than universally expected, you might have thought that most EM FX would tank – not rise by 2-4% for the month.

    Instead it appears like the DOLLAR that is behaving like a high-carry, banana republic currency, by tumbling against all after a rate hike.

    Massive deficits and debts have consequences eventually. It smacks of banana republic finances – and currency. In this new bizarro world, a few select of those EM FX are associated with strong finances, large currency reserves, comparatively low debt and favorable current accounts – so they may be the true safe harbors at least in the FX space, as we’ve now seen during two episodes of market stress this year… The traditional paradigm that the dollar must automatically rise when credit & equity wobbles might not ring as true as it once did, as perhaps the world is subtly changing.

  7. Chicken Says:

    Yes, at least to some extent POG(gold) is based on central bank confidence thus we witness the effect accordingly.

    • David Richards Says:

      Chicken I agree with you, but I think it’s not broad-based loss of confidence quite yet (that’s coming later when the average person everywhere “gets” it’s all a sham). Because note that gold is rising in dollars but it’s going sideways-to-down in terms of many FX incl JPY, EUR, GBP, CHF and many EM FX including the lowly MXN peso. Until we see gold rising in terms of all currencies, it’s not highly bullish (as people watch the gold price and their account statements in terms of their home currency, not USD). So I think what we’re seeing is liquidation, even forced liquidation for those who are leveraged, of US assets, and foreigners especially pulling out of US. It’s the unwind of the manic global buying of US assets not long ago, when both stocks and USD rose together – now they’re both collapsing together! But it’s ugly and maybe getting overdone?… I rarely post a link but I think yesterday’s blog below by a fund manager was both informative and timely:

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