Is there no limit to monetary interventions? Are they forever consequence free? Can every economic and market problem be solved by ever more intervention? Anyone like myself that has questioned the efficacy of the ever more aggressive interventions we see from crisis to crisis has found these questions to be moot as time and time again central banks have shown to successfully not only erase any corrective activity in markets but also propel markets to ever new highs irrespective of any earnings growth issues, valuations or fundamentals.
Indeed central banks will likely see themselves validated as the expected growth picture that is emerging looks to be the most positive in 55 years:
Very possible we’re looking at a 2-year real GDP stretch with *average* annual growth of 6-7%+. Hasn’t happened in 55 years. https://t.co/J59apM6eZ8
— Conor Sen (@conorsen) February 22, 2021
Yet suddenly we are seeing wobbles in markets. Why? Because of the velocity of inflation expectations and correlated speedy rise in yields.
I’ve been of the view that central banks have and continue to overdo it on the liquidity front. With the double down effect of fiscal stimulus and monetary stimulus they have completely perverted the entire globe financial market system and have created historic excess.
And yes, I submit this is a perversion:
US M1 money supply has increased by 71.5% in one year.
Markets joined at the hip. pic.twitter.com/PkYHUQQm89
— Sven Henrich (@NorthmanTrader) February 20, 2021
Yet with unlimited artificial liquidity and government handouts I suppose you can print any GDP you’d like. If only our ancestors had known this, we could’ve avoided any recessions and depressions in history! That is unless all this is not consequence free.
Who is to say what the appropriate policy is? My contention: The Fed doesn’t have a clue either but they embarked on a super aggressive path out of sheer panic in 2020 and now they are afraid to do anything that upsets markets.
“Markets are listening” Jay Powell has said after all.
Now all the talk is about “overheating” the economy. Inflation. GDP growth in the 5%-7% range or higher, a US deficit that could reach between $4 trillion-$5 trillion much of which will have to be financed by the Fed which already has been diving deep into US debt:
And still the Fed is printing $120B a month. There is no precedence, none, to see these massive liquidity bombs thrown on an economy. So who is to say what the consequences are?
Fed and Treasury officials are notably silent on the concept of consequences or “unintended” consequences. “Go big” is the rallying cry of those that know nothing but to print as the go to solution for everything.
But what if the “overheating” is the side consequence that tears down the entire construct? What if the combination of too much fiscal and monetary stimulus is bringing about a Minsky moment, the realization that too much of a good thing can actually be a bad thing?
Perhaps one can manipulate the flows of capital, pervert the money supply, and increase debt only so much before the inevitable rebalancing of excess needs to be contended with?
I ask because it is the velocity of the sudden jump in the 10 year has apparently has brought the rally to a halt:
Indeed today’s intra-day bounce in markets correlating with the intra-day reversal lower in the 10 year yield again highlighting its significance.
Recall that in 2018 it was lights out for the bull market when the 10 year hit 3.2%. Everyone was so bullish, yields rising was a sign of an economy moving above the 2% growth regime so long financed by debt and monetary expansion. Wrong. The 10 year hitting 3.2% marked the end of the bull run then not only because the Fed was actually tightening for 3 months out of the past 10 years, but also 3.2% was too much for the debt construct to handle. And the higher the debt the more sensitive it is to higher rates at ever lower high increments. And hence the Fed panicked again in 2018/2019 and flip flopped on policy and proceeded to cut rates in 2019. That’s what led to the market rally in 2019 on zero earnings growth. Then in 2020 with Covid triggering a market meltdown the Fed went straight to zero rates and unlimited QE producing the melt up we have witnessed in the last year.
Reality is the economy couldn’t even handle 3.2% in 2018 and now we’re seeing concerns popping up with the 10 year hitting 1.39% today.
Now what’s this chart tell us here? Technically the 10 year is approaching a key technical pivot: 1.44%. It marks the 2019 lows and the .382 fib, it’s key confluence technical resistance and rice got very close to there today.
My view fwiw: The Fed will want to prevent a sustained break above 1.44% or it’s lights out for bulls and markets may embark on a major rebalancing journey to the downside.
And so today’s weakness in markets comes at an interesting time as $ES seems to be repeating the pattern from last year as first outlined in Signal Fire. Last year it was Covid as the trigger. Is it yields this time? It seems incredulous to think that markets are repeating the same script from last year, nevertheless here we are: A weekly gap down following 8-9 days of relentless chop:
So weird. Literally the same pivot points on the same dates.
Yet things are also different this time. After all a major stimulus package to the tune of $1.9 trillion is expected in March. But if the policy combinations of fiscal and monetary stimulus are indeed too much of a good thing it is precisely this stimulus expectation and a potentially overheating of the economy that could drive yields higher faster than markets are prepared to tolerate.
The irony: If too much stimulus (both monetary and fiscal) is overheating the economy the correct policy response would be to remove monetary stimulus. But Powell and his merry Fed governors can’t do that for fear of a major market reaction. Yet if they continue on their current path ever more rising yields could cause a major market disruption itself as suddenly TINA has competition and indices so heavily concentrated with mega cap tech may find it hard to avoid major corrective activity. A lose lose situation for the Fed? Say hello to yield curve control.
Yes, everything has to be controlled and manipulated to prevent natural market forces and organic price discovery from taking place. This is what markets and the economy have devolved into: Entirely incapable of acting on its own. So at least central bankers seem to think as their roles in markets and the economy become ever larger. A permanent self justification of their own existence.
Mandate of price stability? Where? Have you checked lumber prices lately? Or copper?
What’s stable about this?
Jay Powell has two major opportunities this week to attempt to rein in yields as he has 2 days of congressional testimony to give.
So one can actually firmly smell the script. The part where Jay Powell jawbones markets with chatter of yield curve control to see yields reverse lower and we have a major relief rally. The type of intervention which is paramountly necessary a mere 2% below all time highs (sarcasm font).
The flip side of course is Powell fails and the 10 year flies through 1.44% and then all bets are off and we may actually see a proper corrective move in markets:
Imagine that. The horror.
So yes, this week may be key. If Powell succeeds then we have the classic set up I’ve mentioned before: A low into the end of February followed by another rally to new highs in March. The year 2000/2013 script if you will.
If Powell doesn’t succeed I supposed anything can happen and we may get that run into the 150MA/200MA confluence support area.
Oh the irony to contemplate: That they finally overdid it with all their interventions and the counter reaction being so large that quickly rising yields are blowing up in their faces and an resulting adverse market reaction at a point when everybody is long and nobody is short at the highest market valuations in history:
The very market positioning brought about by central banks’ relentless interventions resulting in a potential systemic financial stability risk event they would be to blame for.
So all eyes on Jay Powell again this week as he needs to act as the yield shield and give confidence to markets that yields will not suddenly blow up all over the place. And don’t think central banks are not watching. The ECB’s Lagarde apparently has yield tickers on her mobile: ECB Is ‘Closely Monitoring’ Bond Yields as Gains Spark Concern.
“Closely monitoring” apparent code for: We know things are at risk of breaking and we’re on it. So apparently markets need constant interventions and monitoring and reassurances even at record highs with 5%-7% GDP growth. One wonders what they’ll do when GDP growth reverts back to 2%. If things remain consequence free then perhaps print forever. That certainly seems the status quo position for now.
All eyes on yields and Jay Powell the yield shield.
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Categories: Market Analysis