It was late on a Sunday afternoon, an unusual time for these kinds of things. The prior week had been utter chaos, and everything which had been tried up until that day seemed like firing a water pistol at a million-acre forest fire. No matter what number had been thrown around, or in whichever capacity, there was no stopping the inferno.
Rather than think outside the box, for once, those assembled at the Federal Reserve’s hastily arranged conference began speaking to one another in Japanese. Not literally, of course, and certainly not for the first time. The sixth, in fact.
Over the three weeks before March 15, 2020, officials had tried huge “repo” operations (that were not repo operations, they merely mimicked a repo transaction in the private market) by the tens then hundreds of billions, one bigger than the next. Nothing. They extended maturities to offer so-called term relief. Big zip.
With markets worldwide caught up in 2008-style illiquidity, the 5pm (ET) Sunday press release was the Big One, the Fed’s massive bazooka. There would be, after all, a full-blown QE, the sixth of them for the Americans.
“To support the smooth functioning of markets for Treasury securities and agency mortgage-backed securities that are central to the flow of credit to households and businesses, over coming months the Committee will increase its holdings of Treasury securities by at least $500 billion and its holdings of agency mortgage-backed securities by at least $200 billion.”
Though this was just two years ago, the actual details of, and sequence of events from, that period have been lost in the fog of what the Fed would announce this peculiar late-day weekend.
After a few hours relief overnight, the S&P 500 on Monday morning March 16 went quickly down 7% from the prior Friday’s close mere minutes after the opening bell, triggering circuit breakers and halting trading. These did not stem the selling. The morning rout would leave shares devastated for the fourth time out of the prior just six sessions.
For the Dow Jones Industrial Average, the day’s loss was 12.9%, it’s second-greatest single-day loss since World War II (only the Crash of ’87 had been worse). The S&P gave up 12.0%, its third-worst, while the NASDAQ suffered 12.3%, which for the much younger index represented the largest loss in its history.
There would be another stunning stock sell-off ahead, too, on March 18.
In each of these devastating routs, the damage was done very early in the morning – in every case before the official start. The common thread through all of them had been a perfect though devastating correlation between Treasury bills, even gold, and lack of sufficient money in markets the world over.
I wrote about it on March 20, 2020, and how obvious it had been, urging, practically begging someone in position of authority to immediately fire Jay Powell for such gross and repeated dereliction:
“We cannot directly observe the collateral shortage, but we can see very clearly how it has disturbed the markets unfortunately in the most destructive way. Some of the worst days in stock market history and some of the biggest downdrafts in bill yields, both taking place during the repo window…Meanwhile, are central banks doing anything about collateral? Not really.”
Rather than piece together what actually happened, Powell and the FOMC have been hailed heroes for their stout QE6 introduction and allegedly skillful execution of it ever since. The fog of crisis had been too thick, apparently.
It has been “subprime mortgages” all over again.
Two years to the day following the stock market’s worst in decades, those at the Federal Reserve are now reversing course. Not only are we led to believe its policies have completed their assigned tasks, we are meant to judge them perhaps a tad too effective.
On a macro basis, the mainstream view is that the US economy has made it all the way back and more. Full employment is not only within sight, we may have, purportedly, surpassed that point. This, more than anything, is what has driven the FOMC’s current view as to why rate hikes are needed.
Not just a few here or there, like last time in 2018, rather a steady one-meeting-after-another quarter-point into the foreseeable future. Seven total are set for 2022, six remaining after this week. Then more in 2023, though the anticipated arrangement of them was issued with less relative clarity.
With consumer prices already rampaging, having done so for a year, econometric models splice together mathematical calculations for consumer “expectations” (there’s a variable for emotion, you know) with an unemployment rate already below 4%, and the yielding answer is higher federal funds. The more determined and steady, the better the computed result for our future economy.
Computations that don’t include a money variable.
Yet, there are, as I have to keep pointing out, according to the Bureau of Labor Statistics’ Establishment Survey, almost one and a half million fewer private payrolls now than there had been before all those nasty events back in March 2020. Two years later, yet fewer jobs.
This does not count the time factor, either, the four to five million more which should’ve happened that never did. An employment deficit of at least five if not six and half million or more (if the economy was anywhere near decent) is…inflationary?
As discussed last week, it would be inflationary only if you believe the so-called Great Resignation was about vacation-time and leisure rather than what all the data and evidence otherwise indicates – lack of pay and job opportunities far more consistent with our huge remaining employment gap.
These diverging views are priced in radically disgusting bond and money curves. The eurodollar futures curve, after the FOMC’s announcement this week, is so far upside-down, inverted to such an extent we can only compare it to something like 2007.
Its companion, the US Treasury yield curve, itself already inverted between the 7-year note and the benchmark 10-year, then on Wednesday following the Fed’s release the 5-year note, even the 3-year, each had joined the 7-year with yields above those further out in maturity.
Just as there are two parts or sides to each of these curves, there are two potential governing factors behind how these curve parts can be so much at odds.
What I mean by parts is, the front ends for both eurodollar futures and US Treasuries, contracts or bonds with maturities closest to now, these instruments are pricing the Fed and its schedule of rate hikes (factoring, as markets will, other changes like balance sheet runoff as QE6 is ended and then moderately reversed). They are steep, projecting the FOMC’s current aim.
Back ends, however, Treasuries are flat to modestly inverted while eurodollar futures are way out of line, inverted by more than 40 bps top to bottom. These other curve spaces can only be pricing factors and outcomes very different from those guiding the FOMC to its rate hike plans.
The two factors splitting each curve into two parts are: macro and money.
Macro is easy enough, and not just jobs.
There are other considerations, too, including consumer spending in the United States where outlays for goods have been historic while what’s leftover for services has been, like the labor market, continuously below two years ago. Put together, total consumption, adjusted for prices, is seriously behind like payrolls.
Very simply, the outer pieces of our curves are considering, pricing greater confidence that perhaps the labor market just isn’t near full employment, that the overall economy may not be all that good. There is a substantial likelihood high CPI rates have obscured these possibilities, particularly in mainstream public opinion spoon-fed the Fed’s QE6 “flood of digital dollars” lie (given to them by Jay Powell’s May 13, 2020, appearance on CBS News’ 60 Minutes).
And it only becomes more questionable the further anyone goes outside the United States, an entire global economy which almost certainly had slowed way down (some places more than others, such as China) long before the end of last year.
The other problem is money, meaning again collateral as a start.
Every last bit of data we can get our hands on points to collateral scarcity, if not already outright shortage. For all the continuous bluster about bank reserves and the Federal Reserve’s bloated balance sheet, both in need of a policy pruning to go along with higher federal funds, collateral conditions in the real money marketplace cannot be anything like that.
Whether the constant elevated level of repo fails, the triparty repo markets’ wild demand for near-exclusively use of US Treasury collateral (clear and utter disdain for other riskier forms), to Treasuries “disappearing” in bulk from the Federal Reserve Bank of New York’s custody (on behalf of foreign governments who history shows conclusively pull their Treasuries out of FRBNY to use them locally whenever confronted by global dollar and collateral shortages).
For all those more complicated data sources, we add to them once again the simplest, most straightforward indication corroborating what all those together are implying about collateral.
T-bill rates.
When the FOMC voted to raise the federal funds range (top and bottom) by a quarter-point this week, they also added 25 bps to their tools which officials believe help guide and steady money markets into that policy band. These are IOER and, relevant for our purposes here, the reverse repo rate.
The former now stands at 40 bps while the latter raised to thirty. And yet, as of yesterday’s trading, the 4-week Treasury bill was priced in the secondary market to yield just twenty.
A full ten below RRP can only mean one thing.
Why would any profit-maximizing investor buy a 4-week Treasury bill at a price which yields only 0.20% when the same could just as easily and for the same zero risk “lend” their cash to the Federal Reserve paying 0.30% which just so happens to be collateralized by a US Treasury security? The only answer is that whomever is paying this hefty premium for the bill isn’t doing so for its investment characteristics.
There must be some value over and above its yield.
Just as it had been T-bills and their rates which gave the game way, the real money condition, back in February and March 2020, they do so again in March 2022. Collateral scarcity can become an outright shortage with little warning, leading to all kinds of bad – and deflationary – consequences which needn’t be on the scale of 2020 nor September/October 2008 to provoke deflationary fear and generalized risk aversion.
In fact, we might even ask ourselves why the labor market remains in such a huge deficit at the same time collateral conditions have been far below ideal. I answered that question back in December 2017 while discussing how Janet Yellen’s inflation fighting was already doomed – and not because inflation was about to spiral outside of her control:
“The lack of quality collateral is as remarkable as, and related to, the lack of recovery. A real economic advance would create its own collateral on increasingly generous terms, at least further greasing the wheels for it as it spins all around the world under redistribution of dealers (both domestic as well as foreign). When [all you] have are UST’s, you don’t have much, let alone enough.”
And everything since last February says there isn’t even enough UST’s, particularly bills.
The yield curve has been flattening all this time, as has the one for eurodollar futures; the same stupid monetary drag that gets covered up, intentionally, in the rush to prematurely celebrate each and every QE and all those trillions of useless, inert bank reserves.
Though they can’t parse cause from the effect, even the Fed-friendliest outlet at Bloomberg (Bond Traders Stunned by Hawkish Fed Are Sounding Growth Alarm) can’t help but note the obvious price difference in these markets and their brutally candid implication:
“The flattening trend is fueled by expectations of a hawkish Fed pushing up policy-sensitive front-end yields, while longer-maturity yields are held down by concern that higher policy rates will lead to a recession.”
Some will honestly believe that a pitifully low 2% federal funds rate would somehow be enough to turn a potential 1970-style inflationary eruption all the way around into a high chance of recession this year, just as many today still think an almost as pitiful almost 3% federal funds range had destroyed globally synchronized growth’s “powerfully massive boom” just a few years ago.
No. Like I wrote in December 2017, and like I am today, as there was to such an extreme two Marches ago, the money isn’t good so the economy is nowhere near as robust or resilient and the markets have been correctly pricing the ultimate consequences of these factors for months, over a year while the Federal Reserve fumbles about in the monetary and economic darkness of its own everlasting illiteracies.
The writers for Bloomberg are right to point out that recession probabilities right now are enormous and uncomfortably high, before the rate hikes had begun, even if they can’t really make sense of exactly how that could be. Ultimately, curves are behaving madly because for over a year macro and money together have been nothing like the US CPI.
While Jay and his QE’s monopolize nearly all the world’s attention, as Janet and Ben had during their times, I’ve said it for years, keep listening instead to bill.
