Leveling the Playing Field

November 2, 2015
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Lifes but a walking shadow, a poor player
That struts and frets his hour upon the stage
And then is heard no more. It is a tale
Told by an idiot, full of sound and fury,
Signifying nothing.
-

Shakespeares Macbeth

The big headliner from last week was the FOMC meeting, which we covered on Wednesday
nights newsletter. I wont rehash that discussion, but suffice it to say that Yellen et al sent some
pretty unique signals that a hike could be coming in December. But is Yellen seriously
considering a hike? Or is this just the FOMC version of Trick O Treat? (Sorry, had to squeeze
at least one reference in).
The FOMC has been talking about a rate hike for over 18 months at this point, and its starting to
feel like maybe they wont actually hike.
Ever.
Perhaps the Fed is really just full of sound and fury, signifying nothing?
(Editors note - I wish I could say I know that line from my literary studies. The truth is that I
learned that phrase, like so many other important life lessons, from an ESPN anchor during my
formative years. Sorry, I am a walking advertisement against the virtue of public schools.)
The Fed has pounded us over the head with the phrase data-dependent, so we looked at some
important economic data points over the last 6-12 months to see if the Fed could justify a hike at
this point.

ISM Manufacturing 12 month history

Non-Farm Payrolls 12 month history

Durable Goods 12 month history

Core PCE (Feds preferred inflation measure) 6 month history

GDP 12 month history

New Home Sales 12 month history

Which one of those graphs screams hike rates!? They dont, which makes us wonder what the
Fed is actually doing behind closed doors. That raises an interesting question:
What if Yellen just wants to give the appearance of a hike without actually hiking?
Weve often remarked that Fed-speak has nearly the same impact as an actual move, so maybe
Yellen is slow playing a hike and using her soap box to manipulate markets without actually
changing Fed Funds.
Numerous central banks since 2008 have tried to hike, only to have to cut rates again. Yellen is
a dove and is going to err on the side of caution. Look how much expectations for a rate hike in
December had backslid over the second half of this year.
Six months ago, the market was pricing in a probability of a hike in December at 76.9%.
Immediately prior to Wednesdays FOMC meeting, that number was just above 30%. Maybe
Yellen was frustrated by this retracement and decided to tweak the language to specifically
reference the December meeting, knowing it would get a reaction.
The result? The probability of a hike jumped to 50% immediately after the FOMC statement.
That is basically where expectations were from April through the September FOMC meeting
(that surprisingly dovish statement). Think about that for a moment. After expectations for a
hike dropped, Yellen was able to completely reverse course and snap the market back into line
by simply injecting one phrase into the FOMC statement. A phrase that didnt actually commit
the Fed to anything!

Looking back at this years newsletters, we have been expecting a hike most of the year, but that
belief was always based on Fed-speak and not the health of the underlying economy. In fact, one
of our key beliefs that a hike was coming was the old mantra Dont fight the Fed. If the Fed
says they are going to hike, dont fight it. Right?
But if the Fed isnt actually hiking, can a belief in a neutral Fed even be considered fighting the
Fed?
Bill Parcels was no Shakespeare, but he liked to say you are what your record says you are. If
the Fed isnt hiking, maybe its time to concede it really is a neutral Fed regardless of rhetoric?
If we look at it that way, then paradoxically fighting the Fed would be a belief they are close to
hiking. Theyve been close for so long that we are forced to wonder if they ever actually
intended to hike. Maybe Yellen just wants to keep the market on its toes enough that a hike is in
the cards but she really doesnt plan on hiking.
Kocherlakota came out two weeks ago discussing negative interest rates. Was than an accident?
Weve been openly speculating on additional QE for a few months now, expecting the latest
version of Operation Twist. But maybe the hike isnt coming and it will just be QE.
Take a look at overnight rates for several nations. Sweden and Switzerland are already
experimenting with negative interest rates and the Eurozone and Japan are flirting with it. Can
we be far behind?

Having openly referenced the upcoming December meeting is so blatant that it cant be ignored.
A couple of really strong job reports, starting with this Friday, could actually put December into
play. But we cant help but think the baseline is not a hike, but simply more grandstanding.
Markets cant eliminate the possibility of a hike in December, so rates pushed up across the
curve on Thursday and Friday. Despite numerous reasons for long term rates to stay low or even
fall, traders have no choice but to respond to Yellens statement and avoid picking up pennies in
front of a steam roller. Thus, rates popped up and the 10T closed the week at 2.14%.
As noted in our newsletter last week, a key technical resistance level on the 10T is 2.15%-ish, so
no surprise the sell-off ran out of steam there. All eyes will be on Fridays job reports. A
negative number could force the market to acknowledge a hike isnt really coming in December.
And a strong report could render the topic of this newsletter worthless. Keep in mind the Fed
has expended considerable energy lowering the bar for a successful report to 100k+ per month
and not something more like 200k.
Then again, that could just be more of the same about manipulating the markets reaction. Its
tough to completely back out expectations for a hike if the bar has been lowered to just 100k jobs
gained, isnt it?
It is a tale
Told by an idiot, full of sound and fury,
Signifying nothing.
Revisiting this newsletters opening, I cant help but wonder if the idiot telling the tale is
actually...me.
I have been talking about a hike for 18 monthsbelieving it would come in the summerand
then in Octoberand now Decemberbut maybe its really the spring of 2016.
Maybe Im the one that is full of sound and fury, signifying nothing?
Maybe Ive been doing Yellens dirty work for her?
Maybe I dont want to talk about it anymore, so stop asking!

Fortunately, ignorance is bliss.

And while I might be an idiot, Im still cooler than the other side of the pillow.

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