Global Macro Commentary

TheCartsinFrontoftheHorse

Wednesday, March
30, 2016

Guy Haselmann
(212) 225-6686
Director, Capital Markets Strategy
John Zawada
Director, US Rate Sales

TheCartsinFrontoftheHorse
MarketshaveoverreactedtoYellensspeech.Idonotbelievethatshewasasemphaticallydovishasthepressor
euphoricmarketsheralded.Thefloodintoriskassetsthisweekwillsoonprovetobeahugemistakeoverthenext
fewweeksandmonths.Ibeseechinvestorstowritedownyesterdaysclosingpricesinvariousmarketsandcompare
themtomonthendpricesineachmonthfortherestoftheyear.Ibetinvestorswilllookbackatthisweekasa
mistakeandtakeheedoftheterribleupsideversusdownsidepotentialatcurrentvaluations.
o Inthenearfuture,Ibet(materially):thedollarwillbehigher;theSPX,oil,andhighgradeindexeswillbe
lower;theTreasuryyieldcurvewillbeflatter;and,theUST/Bundspreadwillbenarrower.
Inmyopinion,YellenwasmerelytryingtobringclarityaftertheconfusionthatarosefromtheMarchmeetingand
pressconference.HerspeechwasnotintendedtopaintamoredovishFed,butrathertotrytocommunicatewhat
theFedhasbeensayingforquitesometime.Iwilloutlinethisinaminute.Theconfusionisbecauseherwordsfollow
shiftsintheuselessdotplotandbecausetheFOMCsneverdefineddatadependencyhadseeminglyreachedits
goalswithoutanaccompaniedratehike.
Yellensspeechbasicallysaidthattheeconomyandinflationcouldgoupordown,andtheFedwillreactaccordingly.
Sheaddedthatsinceratesweresolowthatthereisanasymmetricalskew,wherebytheFedhasmoreammunitionto
hikethantocut.Duetothisskew,theFOMCmustbecautiousandgradual.Shesaidtheworldisanuncertainplace,
hence,greatcautionisparticularlyprudent.Thereisnothingnewhererelativetopriormessages.
ManybelievethatChairYellenwaswrestlingthedovishmessagebackawayfromsomerecenthawkishcomments
madebyotherFOMCmembers.Idisagree.Itseemsmorelikethemarketishearingwhatitwantstobelieve.Nothing
newwasascertainedaboutFedthinking,however,afewimportantmarketrelatedfactorswerewitnessed.
Welearnedthatmarketdirectioncontinuestobedrivenbyherdinginvestorswhobelievethatmore(orlonger
periodsof)accommodationwillliftassetpricestoeverhigherlevels.Thisstrategyisbecomingevermoredangerous.
Higherpricesmeanlowerfuturereturns.Higherpricesrequiregreateramountsofeconomicreflationtojustify
valuations.Greateramountsofaccommodationarerequiredtoliftpricesevenfurther,butproblematicallythereis
littleeffectivemonetaryorfiscalslacklefttodoso.
Marketsremaindangerouslydependentonaggressivecentralbankinvolvement.TheFedandothercentralbanks
mustbegradualbecauseaquickexitplanwouldcertainlywreakhavoconfinancialmarkets.FOMCmembersadmit
therecouldbesomebumpiness,butIsuspectthatsecretlythey(rightly)fearmuchgreatermarketfallout.
ItmakesnosensetomethatFOMCmembersconstantlysaythattheyneedtohaveconfidencethattheir2%inflation
objectivewillbemetbeforeliftingrates.Thisstatementdoesnotquestionwhymonetarypolicyhasfailedtoachieve
theexpectedlevelsofgrowthandinflation.Thisstatementfullyreliesonthepremisethatmonetaryaccommodation
iswhatisnecessarytoachieve2%inflationandfullemployment.
Isntitpossiblethattheglobalization,theinternet,agingsocieties,andmassiveindebtednesscouldpreventcentral
banksfromfurtherprogresstowardhighergoalsandeconomicperformance?Isntitpossiblethatlowandnegative
ratesmightbecounterproductivetosuchgoals(seemyMarch8note,TheHCurve)?
Unfortunately,Fedofficialsspeakliketheycanachieveeconomicnirvana,oratleastdomorethanisrealistic.Itseems
tomethatpreciselypinpointingexacteconomictargetsfortheUS$18trillionglobaleconomyismicromanagement
atitsextreme.Thereisanunhealthyhubrisinoverpromisingwhatcanbedelivered.Lastweek,PhiladelphiaFed
PresidentHarkerrefreshinglystatedthattheFedshouldhavehumilityinthelimitsofmonetarypolicy.
Theintentionofrecentcentralbankpolicieshasbeentoliftassetpricesandencourageriskseeking.Ifailtoseehow
loweringratesbelowacertainlevel,orhowbuyingmanytrillionsofdollarsofassets,properlyhelpsthereal
economy.Itseemslikethecartisbeingputinfrontofthehorse.Iftherealeconomyisstrongthenassetprices
shouldrisetotheappropriatelevel,notviceversa.
Idoubttherewerepotentialborrowerswhowaitedtoborrowoncerateshitzero,becausetheywerewaitingtodo
betterwithnegativerates.Onthecontrary,nearzeroandnegativeratescrushpension,insuranceandbanking
models.Theyhurtsmallsaversandcausethemtoretrenchevenfurther.Theydamagecapitalmarketsandencourage
speculation.Theyincreaseuncertainty,harmingthewillingnessforinvestmentinthecapitalprojectsnecessaryfor
longrunimprovementintherealeconomy.
Investingtodayismoreaboutpsychologythanvaluation.Lowerforlongermaynotbuytime.Onthecontrary,it
risksfinancialinstabilityandcomplicatescentralbankexitstrategies.Formostcompanies,revenueandprofitgrowth
willbeelusive.Marketshaveenteredadangerousgameofchicken.Investorsshouldworrylessaboutmissingthe
upsideorinfindingcapitalgains,andworrymoreaboutlimitingcapitalloss.
Howdoyoutellifyouverunoutofinvisibleink?StevenWright