Listen to TED When He Speaks, and Even When He's Silent
Who is TED? The financial measure is often cited and just as often misunderstood. It shows up sometimes when you don’t expect it, and then disappears for long stretches where you would think it would be most prominent. In a world of warnings, TED is unusually temperamental.
TED is really a spread, the difference between 3-month US$ LIBOR and the equivalent yield for the 3-month US Treasury bill. By equalizing the maturity and using the T-bill as the spread’s anchor, the difference is essentially what LIBOR may be suggesting about interbank conditions. These aren’t just any interbank indications, though, since LIBOR pertains to eurodollars.
The distance between the two rates should be positive, meaning that interbank participants demand compensation for the risks involved in lending unsecured eurodollars for three months that don’t occur when offering the same funds to the US government. LIBOR, as noted last week, isn’t perfect nor is unsecured lending fashionable like it once was. Still, the rate, therefore spread, tells us something.
Many people still view the TED spread as an indication of credit risk. Eurodollar money versus the risk free is all about that eurodollar money, not the balance sheet solvency of the institution on the other end. The eurodollar system that had developed since the 1960’s has reduced everything to the shortest funding terms, therefore liquidity is always and everywhere paramount.
TED’s 15 minutes of fame came in 2008. As with all things financial, the signal was repeatedly dismissed despite the time and attention rightfully given to it. Part of the reason it was plausible to deny its otherwise straightforward suggestions was the unevenness to which they were offered.
There was a slight rise in the spread in the earliest days of the crisis, back when it was nothing more than Ben Bernanke’s subprime development. The spread was normal (for the times) at about 43 bps when Chairman Bernanke told Congress there was nothing to worry about in March 2007, but by mid-June it was at 93 bps and heading, it seemed, toward 100 bps.
Then, all of sudden, it disappeared.
Through July 2007, TED started going back to normal, getting down again to around 50 bps. Everyone breathed a sigh of relief, officials thinking we all dodged a bullet and how Bernanke was right about it being nothing other than subprime.
Then August 9. On August 8, TED was still 53 bps. The following day, the big one, it spiked to 83 bps. Less than two weeks later the spread had reached 242 bps.
But it wouldn’t see 242 bps again until Lehman despite everything that would happen in between. Over the next year plus one month, the TED spread gyrated often wildly, swinging between two very different extremes. It would recede all the way 81 bps by mid-February 2008, while at the same time Carlyle was in its death throes and Bear Stearns right next in line at the financial morgue.
In June 2008, TED pushed as low 77 bps, almost all the way back from the harrowing experiences of the year before. This was during the break between the first phase of the crash and the much worse second. This “eye” of the monetary hurricane seemed to many a meaningful calm, fooling policymakers into thinking Bear Stearns would turn out to be the worst of it.
The Monday the Lehman news was announced in September 2008, TED was back at 179 bps. Two days later, 303 bps. It would reach an all-time high of 458 bps on October 10, 2008. And then, once again, it would recede even though the crash wasn’t yet over with – not for another five months further on.
There are several reasons why TED is so fickle. They are, in the end, immaterial. What we need to know and concern ourselves with is only that fickleness. The spread between 3-month LIBOR and the 3-month T-bill yield is a flash warning, not a constant one. If it goes up by a substantial amount for any length of time, we need to be on the lookout even as it might go right back down again.
The post-crisis numbers aren’t nearly so impressive. The highest TED has been is 67 bps in September 2016. That’s nothing compared to the panic period, but again the reasons for the difference are of no importance. The spread still behaves the same way even if in absolute terms it might appear almost minimal.
There have been four notable spikes since 2009: the first in the middle of 2010 coincident to the flash crash in stocks and the Greek concern in Europe that was, like the early 2007 subprime concerns in the US, not really about Greece or Europe; the second half of 2011 during what was nearly a rerun of 2008; the period following the shock CNY “devaluation” starting in August 2015; and February to April 2018.
In this latest case, TED was late to the party. There had been any number of things going wrong dating back a full year now to September 5, 2017. On that particular day the 4-week T-bill struck a landmine. Even a year later, no one has any idea what that was. It was at the time attributed to, as always, the most benign possibility; something about nervousness in the bill market over missing the debt ceiling on stalled budget negotiations.
Nope. Someone puked (forgive the term) bills. These instruments don’t move much in price. But on September 5 last year, the equivalent rate went from 96 bps to 130 bps in a single trading session. It’s easy to think that was, again, little more than debt ceiling worries but then other things started to happen, and then they kept on happening.
First it was repo fails, an initial spike in them that was repeated several times over the next several weeks, and then would progressively cascade later on toward the end of 2017. Cross currency basis, derivate currency swap “prices”, right then started to turn more negative (dollar premium) repeating some of the worst characteristics of the 2014-16 “rising dollar” period. Gold, which had been on its way up consistent with the inflation expectations dominant during these periodic reflations, suddenly stopped and reversed. As did the biggest case for Reflation #3, CNY.
If the 4-week bill puke was about the debt ceiling, then that could only mean the entire global dollar system was so uniquely fragile something so small could set off a chain of events that one year later are still progressing in the wrong direction, having created significant, meaningful havoc during that time.
TED didn’t enter the fray until the second week in February 2018. Even global stock markets had become involved before TED, having suffered clear liquidations beginning at the end of January.
From a low of 22 bps on February 12, a week after the second and strongest liquidation, the spread would reach a high of 64 bps on April 4. HKD would strike 7.85 to the downside on April 11, the Federal Reserve would report a massive withdrawal of UST’s from its foreign custody (overseas collateral drain), and then the latest EM massacre would begin on and around April 18-19.
Through everything that has followed, including what may have been the biggest liquidity shift since 2008 with May 29’s global collateral call, TED has been steadily lower. By May 29, the spread was down to 41 bps again, and most recently right back to 22 bps. Going by TED alone, you would be missing out on everything that has changed since it raced higher.
Remember, the TED spread is a flash warning about liquidity in eurodollars, therefore global currency. I’ll provide here a couple interesting examples of what that means, both very much related though they might not seem to be at first. One is ostensibly about European credit markets (courtesy of Bloomberg):
“’In the space of two months, the fear factor has swung from bubbles in credit (i.e. too much liquidity) to liquidity vanishing,’ the Bank of America strategists wrote. ‘Why the sea-change?’”
Why indeed. While the media is filled with stories about tariffs and the Fed’s distractive hand waving, neither of these things is what’s on the minds of Europe’s credit markets. “It’s not trade wars or an equity market correction that look to be keeping credit investors up at night”, according to a survey of Bank of America’s European credit clients. Nor is it inflation, that particular hysteria long gone now.
The second example is the consistently spoiled fruit of these monetary shifts. In January, the IMF’s World Economic Outlook was positively gushing about the global economy. Reflation #3 wasn’t really that much, but Economists can’t help themselves. It’s been a long, long decade for them, so it is understandable if still unforgiveable how they hype each and every upturn no matter how small.
“The cyclical upswing underway since mid-2016 has continued to strengthen. Some 120 economies, accounting for three quarters of world GDP, have seen a pickup in growth in year-on-year terms in 2017, the broadest synchronized global growth upsurge since 2010… Key emerging market and developing economies, including Brazil, China, and South Africa, also posted third-quarter growth stronger than the fall forecasts. High-frequency hard data and sentiment indicators point to a continuation of strong momentum in the fourth quarter.”
Globally synchronized growth was, in the IMF’s assessment, strong growth that was uniform worldwide (an attempt at truth in advertising). Barely six months later, with TED flashing in between, very different story. From the same IMF in its updated July WEO:
“Global growth is projected to reach 3.9 percent in 2018 and 2019, in line with the forecast of the April 2018 World Economic Outlook (WEO), but the expansion is becoming less even, and risks to the outlook are mounting. The rate of expansion appears to have peaked in some major economies and growth has become less synchronized.”
I should say so. Of the three EM’s the WEO singled out positively in January, Brazil, China, and South Africa, Brazil is already on its way toward renewed contraction (GDP was a small positive in Q2, but several of the key internals are already sporting minus signs, some severe), China has rolled over toward heavier deceleration, and South African GDP has contracted in both quarters of 2018 reported to date.
Some people have tried to take comfort in the fact that TED went up but then came right back down. They should concentrate instead only on the first part, that TED went up at all.
In August 2017, not even two weeks before the T-bill blowup early last September, central bankers and academic Economists gathered in Wyoming for the Kansas City Fed’s Jackson Hole symposium. It was the height of Reflation #3, the warm glow of what the IMF would try to describe in its January 2018 WEO. They were in the mood for congratulating each other, a very different atmosphere than the conference held the year before in August 2016.
The theme for that earlier one was officially, Designing Resilient Monetary Policy Frameworks for the Future, but unofficially it was more like “what the hell just happened?” There wasn’t as much confidence in the summer of 2016 as there was in the summer of 2017. What had changed? The dollar.
It had been “unexpectedly” rising throughout 2015 and 2016, roiling global markets and doing massive economic damage. In 2017, the world was back to the sporadic “weak dollar.” Economists ran with it, extrapolating the trend far off into the future of this supposed boom.
The term “resilient” was one that Janet Yellen in particular would use quite often during her single term as Federal Reserve Chairman. It has been something of a project for officials since 2007, though you might get the feeling these same officials aren’t really sure why or what happened. They speak a lot about how things are more solid, yet four times fickle TED has been quite openly opposed to the platitudes.
The theme for the 2017 Jackson Hole Symposium was Fostering A Dynamic Global Recovery. They didn’t spell out specifically “globally synchronized growth”, they didn’t need to. Janet Yellen in her last official address to the forum, though at the time she didn’t know it, would correctly link the two together:
“A resilient financial system is critical to a dynamic global economy--the subject of this conference. A well-functioning financial system facilitates productive investment and new business formation and helps new and existing businesses weather the ups and downs of the business cycle.”
It’s not just a financial system, though, is it? In a credit-based money system, that financial system is the key to global monetary conditions, not just in the potential market liquidity of European credit but also the ability of Brazil or South Africa to fund economically vital trade and investment obligations. A truly dynamic global recovery requires a stable monetary system so that the booming US economy could actually boom in more than the flaws of the unemployment rate.
It’s the one theory central bankers got right, even as far back as the panic. Ben Bernanke said to Congress in 2009, “If there is one message that I’d like to leave you with, if we’re going to have a strong recovery, it has got to be on the back of a stabilization of the financial system.” He was absolutely correct in saying this, but then he never did anything about it. We go from downturn to upturn and back again and they have no idea how or why.
Central bankers have done a lot of things over the years, of course, but none of them have achieved this one critical goal. More than anything, that’s why there is no recovery. Not then, not now, and, as markets return to more familiar fretting, not likely in the future. None of them can figure out the dollar, even though, for Bernanke and Yellen, at least, that was their job.
Janet Yellen thought they had achieved resilience and recovery in 2017, just as Bernanke had believed in 2013 and 2010, but she sure wasn’t sure in 2016. In 2018? We are clearly back to being unsure again. This isn’t resilience, it’s quite the opposite. This is pure monetary instability, the latest flash of TED merely one more nail in a coffin already fastened firmly shut with them.
In the middle of everything is the dollar. Currency volatility is itself not the killer it is one of the most glaring symptoms, though an indicator that on its own isn’t specific or clear enough in the context of conventional thinking. Listen to TED when he speaks, and then for a long time after he falls silent. Liquidity, money, eurodollar.
