Opinion

Unholy Alliance

Some things can’t be proven, but they can be observed. Correlation is not necessarily causation, but when the evidence keeps mounting so does credulity. And the cumulative evidence increasingly points to an unholy alliance between Donald Trump and the US Federal Reserve with the Fed succumbing to political pressure and delivering Donald Trump what he needs most: A soaring stock market to ward off political problems and to help ensure a 2020 re-election.

Fantasy talk? Let’s examine the evidence and take a closer look at the historicity of it all. Nobody has done it and I sense it needs to be done for all to see and judge for themselves. May as well be me doing the legwork here.

It all began in October of 2018. The S&P 500 had made new all time highs in September of 2018. The $DJIA made an all time new high in early October 2018. Things were going well. The US tax cuts rewarded corporations with massive tax benefits which many of them unleashed on US markets in the form of record buybacks and markets were soaring, US GDP growth was moving above 3% all was well.

Indeed Donald Trump, known for having tweeted critically about the Fed dozens of times in 2019, had not mentioned the Fed once in 2018. Not until this happened:

Markets sold off in October and suddenly the first tweet about the Fed, a subtle hint quoting a Wall Street strategist:

Backing off of course referring to the Fed’s efforts to use market and economic strength to finally attempt to normalize its bloated balance sheet from $4.5 trillion to something more in line with pre financial crisis levels.

The larger hint: Use the Fed to re-inflate asset prices.

Whatever you may think of of Donald Trump he knows quite well the power of the Fed and its impact on asset prices. Sinking stock prices are bad for business, bad for the economy and bad for a president.

And what better way to increase stock prices than to have the Fed increase its balance sheet. Here, Donald Trump in 2012:

QE creates artificial numbers for short term gains. His words. He knows.

QE was needed, especially as markets collapsed into late 2018:

Suddenly the pace of Fed tweeting increased, the tone more direct with specific instructions:

Stop the 50 B’s. The 50 B’s of course referring to the Fed’s quantitative tightening program on “autopilot” as Jay Powell had declared it to be.
The collapse in markets now prompted more aggressive signaling as only 4 days following the above tweet Trump threatened to fire Powell.

Pressure was on. Treasury Secretary Mnuchin was hitting the phones hard only a day later with his now infamous liquidity calls with banks. It doesn’t take a conspiracy theorist to presume Jay Powell’s phone was on speed dial as well.

Markets, vastly oversold and technically disconnected, bottomed following these phone calls. And Jay Powell’s autopilot program crumbled in principle and suddenly signaled being “flexible” on the balance sheet roll-off only a few days later.

Stop the 50Bs. Yes sir. A message received and likely very well reinforced during an ‘informal dinner” in early February.

And thus began a long windy road to ensure asset price levitation and stop any corrective activity in its tracks and Jay Powell became the savior at every low in 2019:

But the Fed ran into problems during its initial rate cuts in 2019 as each time markets sold off.

All the while the present kept the pressure on in dozens of tweets. Type in “Fed” in the tweet archive and see for yourself.

Here are a few select goodies again linking market performance to the Fed:

Jay Powell is claimed to be clueless as markets were correcting in August:

Powell has let us down, need a big cut:

No, the pressure was on to deliver big, not only on rate cuts but also on QE:

And Powell delivered. 3 rate cuts, and then came the big repo program and then QE, although the Fed sheepishly claimed it not to be QE. The Fed increased its balance sheet hard, over $290B now and markets listened.

Indeed the only down week markets have had since then was precisely the only week the Fed actually reduced its balance sheet. Correlation is not causation?

Hardly, especially considering the Fed is running a massive daily liquidity program on top of QE, called repo:

As markets volumes have dwindled in the run up of the rally the Fed is relentlessly injecting liquidity into these markets with over $106B added just on the Wednesday in front of the Thanksgiving holiday. My question:

My larger point: “The Federal Reserve Bank of New York added $108.95 billion in temporary liquidity to the financial system on Wednesday.”. If it’s temporary, but happens every single day it’s not temporary, it’s a permanent daily liquidity boost.

It’s distorting markets.

And indeed it is.

Following the introduction of QE not only went markets on a tear to new highs, but left the weekly 5EMA in the dust, not touching it for 6 weeks in a row:

Weekly 5 EMA disconnects happen during big rallies and during big sell offs. Nothing unusual about that. How often do weekly 5 EMA disconnects happen 6 weeks in a row? Well, never:

Not even during the blast off rally into January 2018 did this happen, but since the Fed has been drowning markets in liquidity with its daily liquidity injections and treasury bills buying markets have blasted off into the melt-up/combustion scenario.

And suddenly we get to witness a miraculous conversion. From Jay Powell the beaten puppy, the clueless terrible communicator and derelict if he doesn’t stimulate..

….to getting a very good and cordial meeting:

We’re all friends again, cause that’s where you meet with friends, not in the Oval office, but in the private residence of the White House.

I submit the timelines, the actions, the words, the results speak for themselves.

The US Fed under Jay Powell has manufactured a massive market rally producing vast P/E multiple expansion in the face to declining earnings and growth:

Wall Street gets to celebrate, wealth inequality is made great again, Powell’s no longer clueless, his job is safe and the president gets to take victory laps on twitter:

Will it last for the long term?

Not according to this guy:

It just needs to last until November 2020.

And the Fed claiming political independence? That claim rings as hollow as its September declaration of repo being just temporary. Sure Sherlock:

Look, I can’t prove an unholy alliance between Trump and the Fed. I’m not sitting at the dinner table or in the White House residence or listen to phone calls. There are no transcripts, no minutes, nothing of the transparent sort.

But we have dates, we have tweets, we have price action, we have speeches and we have policy actions and we can see the correlations between all these things and the impact on US stock markets and all of these lead to an inevitable conclusion: The Fed has been doing the administration’s bidding, willingly or not is besides the point. They have for the ultimate reason: No bull market without central bank intervention, for they know the larger truth:

I’ll aim to post a technical update separately in the days ahead, but know that this rally is not based on fundamentals or growth, it’s a manufactured melt-up that is stretching charts far above the historic mean and therefore increase risk of a massive reversion. Melt-ups are awe-inspiring, but they are also dangerous if not supported by fundamentals and the Fed may come to regret the liquidity monsters it has unleashed for the Fed will ultimately take the blame blowing the largest asset bubble since 2000.


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Categories: Opinion

31 replies »

  1. I differ somewhat. The Fed was sure to reverse course because there is nobody in the world that wants ‘tight’ money. Trump’s silly extreme demands for zero rates has given the Fed some cover by being ‘moderate’ with their quarter point cuts. In the minds of most people at this moment is that the Fed is actually still ‘tight’. Measured against Trump’s demand for zero after all, they are.
    Anyway between the repos and the outright expansion of it’s balance sheet the results now show stable rates with a positive curve and enough liquidity for perhaps the DOW rising 1000 points a month. Well surely it will be plus 30K when the buying slows in the spring. Just in time for warnings that electing a Democrat wil cause a crash so down we will go into the election I am guessing.

  2. I think we can safely say that they will print until they fall dead…I would be surprised if we don’t see negative rates in the US too…and helicopter money. And then, at some point, complete panick will unfold….because you simply can’t print yourself endlessly to prosperity.

  3. How many 12 month long melt-ups, at this current rate, have ever occurred? SP500 at 4,000 by November 2020, or maybe 2,000 instead??? Just flip a coin, in front of that November 2020 election steam roller.

    If the fed cuts rates more than once in 2020, it will be obvious it is playing politics, yet I bet they only cuts rates once in 2020, if at all. The Repo issue forced QE, and politics/future fed independence forced 0.75% of interest rate cuts (blame avoidance), and now the Fed has both political and market crash “blame insurance” coverage. Well played, IMHO. To me, 2019 fed action was simply coincidental in supporting the President. The Fed would have to be completely naive of a possible 2020 Democrat sweep (and much higher odds in 2024), to continue pushing markets higher for the November 2020 elections. Although the Feds continued hate and fear mongering “white papers” concerning MMT recently may be indicatve that the Feds would rather we have a locked political system, ensured with a re-elected President. As if the dems start tossing out free money “QE for the People”, the Fed will have even less independence than they have under the current President. MMT is krytonite to future Fed powers, so I could see them enact crazy policy to keep MMT from becoming mainstream in America. Thus perhaps Sven’s analysis fits this theory of “WHY” would the Fed want a second term for the current President. Yet hard to imagine the Fed not being fired before his term ends in February 2022 if re-election happens, yet a brilliant exit plan for the current Fed getting fired, to avoid owning the upcoming “Everything Bubble” crash…

  4. The Fed is in a lose-Lose situation right now, as El-Erian explained recently (copy and pasted below). a Win-Win short term for stocks and asset values, yet huge Lose-Lose for everyone soon enough. When-When is anyones guess, but I’d bet we all will pay the price sometime in 2020, and no later than EOY 2021. Push on this string untl 2022, and we will have a 60-80% mean reversion, instead of 30-50%. And inequality will be worse with a 2022 crash, vs 2020…as the smart money will be mostly out by 2021, with the dumb money holding the bag in 2022. I keep waiting for the dumb money to fall for this trick again, yet not sure they have capital to invest anymore. At this point, maybe corporate buybacks will be the ‘dumb money’ bagholders instead of Joe six pack. Yet Joe six pack will feel the impact after losing their jobs when corporations have issues funding their bond debts.

    But El-Erian isn’t confident that (FED) cushion is inexhaustible.

    “How do central banks pursue their economic objectives? By pushing up asset prices. By hoping that higher asset prices make us feel wealthier,” he said. “And as we feel wealthier, we spend more. And as we spend more, companies invest more.”

    But guess what. It doesn’t work. And there is collateral damage and unintended consequences. So, what you’re seeing here is basically the Fed pushing on a string. However, the Fed cannot pull back, because if it pulled back it’s worried that it’s going to disrupt markets. And if it disrupts markets, there can be a spillover on the economy.”

  5. Sven, you’re a bit too conspiratorial for my taste, but it’s possible you’re right, since we’re speculating about what’s actually motivating the Fed to act.

    Presumably, Trump didn’t pressure all the other central banks, Europe, Japan, China, to do QE as well?

    So it might be Mr. Powell acted, because he saw what all the other central bankers were doing and knew we live in a globalized market. In other words, the US won’t be insulated forever from a downturn throughout the rest of the world.

    Regarding repo, that may have nothing to do with Trump. From what I can piece together from the financial press, if repo interest rates go too high, a whole bunch of large hedge funds and “shadow lenders” might not be able to conduct their daily business. The question is, why are big banks holding onto their money, rather than lending it overnight to these groups, as they used to do? The suggestion is that some hedge funds and shadow lenders might have too much debt, and the banks don’t want to lend to them.

    If these large hedge funds’ and shadow lenders’ overnight loans freeze up, what happens?

    Well, it might be something similar to late 2008, when banks didn’t trust each other enough to want to lend short-term funds. What was the answer then? Fed liquidity support. Do you have a different option that won’t again freeze lending in the US?

  6. Obama didn’t have to worry, because the Fed had his back by keeping interest rates at 0% for his entire term of office. The day Trump got elected, the Fed hiked interest rates 8 times. Who says the Fed isn’t political???

  7. Hi Sven. Wondering if one day you can revisit the history of the Fed… how they began by the banks themselves to save their own behinds, how they mostly work for the banks, etc… Call it a history lesson that most people don’t know. And thanks for all your good work. Cheers!

  8. “The Fed has been doing the administration’s bidding and has manufactured a massive market rally producing vast P/E multiple expansion in the face to declining earnings and growth.” – Sven

    Okay, now tell us what the Fed was doing from 2010-2016 while Obama was President?

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