Interesting TACs of the Week (March 1 – March 6, 2020)

Summary – A top-down review of interesting calls and comments made last week in Treasuries, monetary policy, economics, stocks, bonds & commodities. TAC is our acronym for Tweets, Articles, & Clips – our basic inputs for this article.

Editor’s Note: In this series of articles, we include important or interesting Tweets, Articles, Video Clips with our comments. This is an article that expresses our personal opinions about comments made on Television, Tweeter, and in Print. It is NOT intended to provide any investment advice of any type whatsoever. No one should base any investing decisions or conclusions based on anything written in or inferred from this article. Macro Viewpoints & its affiliates expressly disclaim all liability in respect to actions taken based on any or all of the information in this article. Investing is a serious matter and all investment decisions should only be taken after a detailed discussion with your investment advisor and should be subject to your objectives, suitability requirements and risk tolerance.

 

1.Fed Rate Cut – Applause Now after Hubris-based Error?

We have rarely seen the type of angry anti-Fed rhetoric we saw this week after the sudden rate cut of 50 bps by the Fed. The stock guys were angry because the 300 point stock rally of the morning reversed quickly after the Fed rate cut & the Dow closed down 780 points on Tuesday. Their chief complaint was that the Fed panicked the stock market by their sudden action. Some of them expressed their anger against the “continued madness” of the Fed in lowering rates to drive up stocks. Some hard-money analysts were angry about the rate cut for the opposite reason. Some business cycle guys were angry because they believed the economy was strong & actually strengthening.  Only Jim Bianco & Jeff Gundlach were smart & brave to say the Fed did the right thing and applauded the Fed. 

The Treasury market is so central to our & global financial markets that aspects of it touch every discipline from macro to micro, from stocks to credit to currencies to commodities That is why analyzing the Treasury market via single discipline based people is often like the old fable of blind analysts analyzing an elephant (an animal they had never encountered before) by touching various parts of the elephant. Obviously their attempts fail. 

Our approach is simple. We assume, based on history, that the Fed always screws up mainly out of hubris & partially because of their intense desire to look good especially to the Congress. Recall what the FOMC statement said on January 29, 2020 after that Fed meeting:

• “The Committee judges that the current stance of monetary policy is appropriate to support sustained expansion of economic activity, strong labor market conditions, and inflation returning to the Committee’s symmetric 2 percent objective.”

At that time, we viewed this hubris to be a throwback to “Mission Accomplished” banner that was posted behind President George W. Bush to celebrate the successful toppling of the Saddam Hussein regime.

Not quite. Because something was missing in the hubris of the FOMC statement on January 29, 2020. Hubris about how successful the Fed’s Repo Support operation had been. That came during the Congressional testimony on February 11, 2020:

What came 2 days later? The New York Fed announced on Thursday February 13, 2020 that

• “The maximum offerings on term repo operations, which last two weeks, will be reduced on Tuesday to $25 billion from $30 billion. In March, the cap will be reduced further to $20 billion.”

That was the first reduction in the cap on term repo operations since they were begun last fall. That fateful Tuesday was February 18, 2020. Guess what happened from February 19, 2020, the next day?  The ytd chart of SPY answers that better more than 1,000 words could:

 

Now fast forward to this past Monday, March 2, 2020. What did the Fed face besides the G-7 call? A Treasury market with the overnight Federal Funds Rate as the 2nd highest rate in G-7, lower only than the 30-year rate. The 1.50% Federal Funds rate was 34 bps higher then the 10-year rate and 56 bps higher than the 5-year rate. And, the demand for the Repo support on that Monday morning broke all previous records, even the record reached on December 31, 2019, the most illiquid day of a calendar year.

Now go back to the above clip of Chairman Powell & focus on what he said at minute 1:23:

• “Our main focus, of course, is the Federal Funds market and our ability to transmit our policy decisions smoothly into the money markets through the Federal Funds Rate.”

The record demand for Repo support was a sign of unacceptable liquidity crunch possibly exacerbated by the ridiculous inversion between the Federal Funds Rate & the entire Treasury curve up to 10-years. Either the Fed had to intervene bigly or announce that the Federal Funds rate had no longer any meaning. And what would have happened to markets had the Fed said the latter?

So the Fed had NO Choice except to cut by 50 bps on Tuesday morning. And they were simply unable to explain the real reasons of the cut. What could they say? That they had kept the Federal Funds too high for months? Or that their original sin was to raise the Federal Funds rate to ridiculously high levels in Q4 2018? Or admit both & also that their self-congratulating “current stance of monetary policy is appropriate” comment in their FOMC statement of January 29 was horribly wrong? Yeah, right! The Fed is above all a political animal & keeping up appearances is the key to their survival. 

Kudos to Jim Bianco for trying to explain this on CNBC Fast Money on Tuesday, March 3. 

 

What did we see on this past Friday afternoon? Deja vu all over again, to use an over-used but superb phrase. This Friday’s inversion between the Federal Funds Rate and the sub-30 Treasury curve is almost as bad as a week ago. The new Federal Funds is 1% but the 10-year yield is now at 76 bps & the 5-year yield is now at 60 bps, inversions of 24 bps (vs. 34 bps a week ago) and (40 bps vs. 56 bps a week ago). 

And there is now a bigger problem. The Corporate Bond market, the biggest problem in financial markets, has virtually shut down. High yields spreads blew out on Thursday & Friday while Treasury yields melted. In simple terms, high yield ETFs, HYG & JNK, fell 1.3% on the week while TLT, the Treasury ETF, rallied by 7%.