Jim’s Mailbox

Posted at 10:15 AM (CST) by & filed under Jim's Mailbox.

Yes Wolfgang correct, the Fed will be the buyer of last and only resort.

Bill

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Bill,

Sometimes Central Bank actions defy reasoning. In this case it’s raising interest rates in the face of an economic environment that’s on life support.

Lowering rates to ramp up bond prices has been the tempting feature of Fed policy for the past decade. This game has now run its course and the market knows this. Now they will raise rates in an attempt to draw buyers. A closer look at the underlying situation reveals their rationale.

We are all aware of the continual unloading of U.S. Treasuries by Central Banks throughout the world, especially China and Russia . This movement is gaining traction and will not end soon.

Someone has to pick up the slack. It certainly won’t be any funds or trading houses, as the run in yields toward zero has achieved its objective and the only real direction now is backtracking towards “normalization.”

Therefore, it’s up to the Fed to support its own paper. The way they do this is to raise rates and make US paper more competitive with foreign paper, as well as tempt the funds to move away from rich dividend equities and back into government paper. But at a cost….equity market turbulence.

“That said, a 3% Fed Funds rate would also lead to steep selloff in risk assets as the dividend yield on the S&P, currently at about 2%, would be about 1% below the risk free rate, leading to a wholesale “great rotation” out of stocks.”

Sure, the economy (the public) will draw the short straw with these actions, as they will promote a deeper slide into our recessionary environment. Higher rates will stifle growth. Quite simple.

“We could certainly debate why this expansion is already longer than normal, but strong growth is clearly not the reason. In fact, quite the opposite – a lackluster economic backdrop for years, leading to massive central bank support,has likely kept the cycle going more than anything else.”

There is, however, another option. And that may come to be their only option very soon. Printing fiat currency.

Print to repurchase debt and flood the landscape with green. Green paper that is!

When push comes to shove has the Fed ever really cared about the public? It’s always about corporate “care packages” at any cost. Always was, always will be.

CIGA Wolfgang Rech

Morgan Stanley: “Only One Thing Will Allow Central Banks To Keep The Party Going
March 19, 2017

Last week, we presented readers with the latest note from SocGen strategist. Albert Edwards, who explained why after so many years of false rate hike starts, the market not only responded to last week’s hike in a dovish manner – interpreting last Wednesday’s 0.25% hike as a 0.25% rate cut- but as Goldman Sachs showed previously, the dovish reaction was one of the strongest ones since the financial crisis, in other words: “the market no longer believes the Fed.” This is what Edwards said, citing his FX colleague Kit Juckes:

[T]he Fed’s reluctance to send an aggressive tightening signal, instead preferring to again shuffle upwards its dots just slightly, has disappointed markets. But to be fair, the problem isn’t really with the famous dots. It’s with the market, which just doesn’t believe the Fed will tighten as fast as they say they plan to (see left-hand chart below). If the market took the FOMC at their word and discounted a 3% Fed Funds rate at the end of 2019 and beyond, then we’d probably have a 3% nominal 10-year Treasury yield by now.”

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That said, a 3% Fed Funds rate would also lead to steep selloff in risk assets as the dividend yield on the S&P, currently at about 2%, would be about 1% below the risk free rate, leading to a wholesale “great rotation” out of stocks.

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