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Blain’s Morning Porridge – 18th June 2019

Blain’s Morning Porridge – 18th June 2019

“Here’s to all the filthy money and where it went..” 

Happy Birthday David! 

Apologies for the lack of commentary y’day.. long, dull boring story involving the Isle of Wight Festival, transport hassles and a whiff of pot on a strike slowed train… 

So much to think and worry about the morning – the market showing its love and appreciation for BoJo and the heightened chances of a no-deal Brexit by spanking sterling to a 6 month low, or Boeing deciding to rename its troubled B-737 MAX by dropping MAX as Airbus orders come flooding in at the Paris Airshow, but the main story is the Fed.. or should that be how much faith the market is putting in the Fed and the FOMC meeting today/tomorrow? I’m not persuaded… 

The market consensus is the Fed will eventually ease US rates, but not this time. It’s how it communicates/hints at timing tomorrow that will be most closely analysed aspect. Expect pages of dot-plot analysis and explanations of whatever he said and meant. Fed-Head Jerome Powell has already made clear the Fed is willing to act to offset slower growth and counter a trade war; “we will act as appropriate to sustain the expansion”. 

This is where it starts to look messy. Is it the Fed’s job to “sustain expansion”? 

It’s clearly a laudable objective, but let’s not confuse the stock market for the economy! It plays right into Trump’s agenda, his simplistic message to the electorate that stock strength proves his deal making success. An ease would provide a potent hit of short-term ecstasy to an addicted stock market, and give Trump something to crow about – a factor the Liberal press is all over like the proverbial cheap suit.

 …click on the above link to read the rest of the article…

Goldman: Here’s Why The Fed Is About To Shock The Market

Goldman: Here’s Why The Fed Is About To Shock The Market

As discussed earlier, and as both Bank of America and JPM explained, the biggest risk for the market next week is if the Fed not only doesn’t cut – the market assigns a very low probability to such a “pre-emptive” move – but fails to signal an aggressive dovish reversal in the form of a rate cut in July. And yet, despite its upbeat outlook – it still expects the S&P to close the year at 3,000, Goldman’s strategists are certainly taking the over on how hawkish the Fed will sound next week.

As Goldman’s chief economist Jan Hatzius writes, the bank expects “unchanged” policy at the June 18-19 FOMC meeting and sees the subjective odds of a June cut at only 10%. More importantly, while Goldman looks for a dovish tilt to the proceedings it won’t be nearly enough to appease markets that have aggressively priced rate cuts in the fall. 

Barring an unlikely surprise on the funds rate, we expect the market to focus on four key developments:

  1. the statement’s policy stance/balance of risks paragraph,
  2. the number of participants projecting cuts in the Summary of Economic Projections (SEP),
  3. the extent of dovish changes to the statement and economic forecasts, and
  4. the tone of Powell’s press conference.

Rather than Goldman’s standard “Then and Now” table, the chart below “plots the setup for next week’s meeting across three dimensions, as well as their averages ahead of three major dovish shifts: September 2007 (at which the Fed abandoned the hiking bias and cut 50bps in response to subprime turmoil), September 2010 (formally signaled QE2), and March 2016 (scuttled the hiking cycle until global risks abated). Here, Hatzius also shows the three-month evolution of these four variables: stock prices, IG credit spreads, and consensus GDP growth.

 …click on the above link to read the rest of the article…

Bubble 3.0: A Blast From a Bubble Past

BUBBLE 3.0: A BLAST FROM A BUBBLE PAST

“Although macroeconomic forecasting is fraught with hazards, I would not interpret the currently very flat yield curve as indicating a significant economic slowdown to come.”
–BEN BERNANKE, Former Fed Chairman in a March 20, 2006 speech

“It was popular to play down the significance of the inverted yield curve in 2000 and 2006, but on both occasions, the bond market’s warning was eventually vindicated.”
The Long View column in the Financial Times, March 30th and 31st, 2019

“Nothing sedates rationality like large doses of effortless money.”
–WARREN BUFFETT

____________________________________________________________________________

SUMMARY

  • The tech bubble in the late 1990s set off a chain of events that led to Bubble 2.0 in the mid-2000s, and the bubble in which we presently find ourselves
  • Recent IPOs such as Uber, Lyft and Beyond Meat underscore the rank speculation of securities valued on considerations other than profits
  • Over 80% of IPOs coming to market currently are earnings-free, the highest rate since 2000
  • One major divergence from Bubble 1.0 is that many outrageous valuations go well beyond tech
  • However, despite this fact, we are living in a two-tiered market where, just like in 2000, there are a multitude of companies that are reasonably valued
  • Additional parallels with Bubble 1.0 are the regulatory attacks on tech, the war then vs the war now, the yield curve and current economic conditions
  • Evergreen’s view is that a simple buy-and-hold approach with an S&P 500 index fund won’t cut it in this environment
  • Just as in 2000, allocating away from bubble-infested parts of today’s stock market is essential, as is selling into rallies and buying into weakness

____________________________________________________________________________

BUBBLE 3.0: A BLAST FROM A BUBBLE PAST

Securities highlighted or discussed in this communication are mentioned for illustrative purposes only and are not a recommendation for these securities. Evergreen actively manages client portfolios and securities discussed in this communication may or may not be held in such portfolios at any given time. Please see important disclosure following this article. 

 …click on the above link to read the rest of the article…

IceCap: Every Fed Chair Has A Plan, Until…

IceCap: Every Fed Chair Has A Plan, Until…

It’s Easy

In the world of knitting, stitching and crocheting; threading the needle is easy. Line-up your thread, needle and a good cup of tea and you’re all set.

In most other worlds – it can be tricky.

If executed perfectly – threading the needle can be rewarding, exhilarating and thrilling all at the same time.

If executed imperfectly – it can end in disaster.

In American football, 49ers quarterback Nick Mullens expertly threaded the football between 4 different Raiders players, landing it perfectly in the hands of his teammate George Kittle, who then galloped 60 yards for a touch down.

That was thrilling.

Sporting a human-wingsuit, Jeff Corlis dove off a 12,000 foot mountain and expertly threaded the needle known as “The Crack” in the Swiss Alps.

That was exhilarating.

Unknown to many, threading the needle is also being attempted in the high stakes game of global finance.

Leaders at the world’s central banks are all trying to steer their domestic economies through a small opening while avoiding the pitfalls created by a lifetime of excessive borrowing and ill-fated policy responses.

In the minds of these financial maestros, they have the tools, the doctorate degrees and the blessings of governments to thread the financial needle.

In an effort to resolve any financial crisis, the world’s central banks have always tried to thread the needle by changing interest rates and/or changing the amount of money in the system.

The central banks and their supporters all claim that only through their actions, was a serious crisis resolved allowing everyone to live happily thereafter.

What the central banks and their supporters do not tell you, is that the actions to save one crisis, have always sowed the seeds for the next crisis.

 …click on the above link to read the rest of the article…

“The Market is Almost Always Wrong About What the Fed Will Do”: Chart

“The Market is Almost Always Wrong About What the Fed Will Do”: Chart

The rate cuts for 2019 are a pipe-dream: Goldman Sachs and Deutsche Bank.

It now makes two: The chief economists at investment banks Goldman Sachs and Deutsche Bank have warned their clients that the already priced-in rate cuts this year that markets are so excited about may not materialize.

To proof their point, Deutsche Bank chief economist Torsten Slok and his team dug through the data going back to 2001, comparing the path of the federal funds rate – which reflects the Fed’s rate hikes and cuts – to the futures markets for the federal funds rate. They concluded: “The market is almost always wrong about what the Fed will do.”

And they asked: “Why would the market be right today?” That was a rhetorical question.

Yet, these bets – that are “almost always wrong” about the Fed’s rate decisions – are now being incessantly cited to show that the Fed will cut its target range for the federal funds rate. At the moment, these traders see an 80% probability that the Fed will cut its target range at least twice by the December 11 meeting, including a 31% probability of three cuts by then, and a 10% probability of four cuts, as implied by trading of 30-day Fed Fund futures.

This chart shows how three rate cuts suddenly gained momentum among Fed Funds futures traders on the CME, though tapering a tad over the past two days (chart via Investing.com):

Anytime the rate-cut mongers on Wall Street can twist something a Fed governor says into a rate-cut projection, they will. For example, Fed chair Jerome Powell gave a speech on June 4 about long-term questions the Fed has been mulling over. The speech was unrelated to what the Fed will do over the next few meetings. Out of context, he shoehorned this line – “we will act as appropriate to sustain the expansion” – into the beginning.

 …click on the above link to read the rest of the article…

The US Economy’s Dirty Secret

The US Economy’s Dirty Secret

Relatively strong US growth amid sluggishness elsewhere is not what economics textbooks would predict. But persistently low interest rates and weak inflation bring multiple benefits to American firms and consumers, while the adverse impact of the global slowdown on US exports should not be overstated.

SAN DIEGO – There is a dirty little secret in economics today: the United States has benefited – and continues to benefit – from the global slump. The US economy is humming along, even while protesters in the United Kingdom hurl milkshakes at Brexiteers, French President Emmanuel Macron confronts nihilist yellow-vested marchers, and Chinese tech firms such as Huawei fear being frozen out of foreign markets.

Last year, the US economy grew by 2.9%, while the eurozone expanded by just 1.8%, giving President Donald Trump even more confidence in his confrontational style. But relatively strong US growth amid sluggishness elsewhere is not what economics textbooks would predict. Whatever happened to the tightly integrated world economy that the International Monetary Fund and the World Bank have been advocating – and more recently extolling – since World War II?

The US economy is in a temporary but potent phase in which weakness abroad lifts spirits at home. But this economic euphoria has nothing to do with Trump-era spite and malice, and much to do with interest rates.

Borrowing costs are currently lower than at any time since the founding of the US Federal Reserve in 1913, or in the UK’s case since the Bank of England was established in 1694. The ten-year US Treasury bond is yielding about 2.123%, and in April, the streaming service Netflix issued junk bonds at a rate of just 5.4%.

 …click on the above link to read the rest of the article…

Should the Fed Tamper With the Quantity of Money?

SHOULD THE FED TAMPER WITH THE QUANTITY OF MONEY?

Most economists are of the view that a growing economy requires a growing money stock, because economic growth gives rise to a greater demand for money, which must be accommodated.

Failing to do so, it is maintained, will lead to a decline in the prices of goods and services, which in turn will destabilize the economy and lead to an economic recession or, even worse, depression.

For most economists and commentators the main role of the Fed is to keep the supply and the demand for money in equilibrium. Whenever an increase in the demand for money occurs, to maintain the state of equilibrium the accommodation of the demand for money by the Fed is considered a necessary action to keep the economy on a path of economic and price stability.

As long as the growth rate of money supply does not exceed the growth rate of the demand for money, then the accommodation of the increase in the demand for money is not considered as money printing and therefore harmful to the economy.

Note that on this way of thinking the growth rate in the demand for money absorbs the growth rate of the supply of money hence no effective increase in the supply of money occurs. So from this perspective, no harm is inflicted on the economy.

Historically, many different goods have been used as money. On this, Mises observed that, over time,

. . . there would be an inevitable tendency for the less marketable of the series of goods used as media of exchange to be one by one rejected until at last only a single commodity remained, which was universally employed as a medium of exchange; in a word, money[1].

 …click on the above link to read the rest of the article…

Weekly Commentary: The Ignore Them, Then Panic Dynamic

Weekly Commentary: The Ignore Them, Then Panic Dynamic

After years of increasingly close cooperation and collaboration, the relationship has turned strained. Both sides are digging in their heels. Credibility is on the line. If one side doesn’t back down, things could really turn problematic. The Fed is asserting that it’s not about to lower the targeted Fed funds rate. Markets are strident: You will cut, and you will cut soon. Bonds are instructing the world to prepare for the Long March.  

Market probability for a rate cut by the December 11th FOMC meeting jumped to 80% this week, up from last week’s 75% and the previous week’s 59%.  

May 22 – Reuters (Howard Schneider and Jason Lange): “U.S. Federal Reserve officials at their last meeting agreed that their current patient approach to setting monetary policy could remain in place ‘for some time,’ a further sign policymakers see little need to change rates in either direction. ‘Members observed that a patient approach…would likely remain appropriate for some time,’ with no need to raise or lower the target interest rate from its current level of between 2.25 and 2.5%, the Fed… reported in the minutes of the central bank’s April 30-May 1 meeting. Recent weak inflation was viewed by ‘many participants…as likely to be transitory,’ while risks to financial markets and the global economy had appeared to ease – a judgment rendered before the Trump administration imposed higher tariffs on Chinese goods and took other steps that intensified trade tensions.”

Analysts have been quick to point out that additional tariffs along with the breakdown in trade negotiations unfolded post the latest FOMC meeting. True, yet several Fed officials have recently reiterated the message of no urgency to lower rates. This week Atlanta Federal Reserve President Raphael Bostic said he doesn’t see the Fed reducing rates.

 …click on the above link to read the rest of the article…

Liquidity Stress Fractures Begin to Show in the Federal Reserve System

Liquidity Stress Fractures Begin to Show in the Federal Reserve System 

The Fed's great recovery rewind is rapidly depleting the very bank reserves the were built up to protect from bank runs like those in the Great Depression.

In my January Premium Post, “An Interesting Interest Conundrum,” I laid out how the Federal Reserve was losing control over the Fed funds rate — a loss of control over its bedrock interest rate that indicates financial stresses are building in the banking system that increase the risks from runs on the banks:

After the financial crisis, when there was a risk of runs on banks, the Fed … require[d] the banks to hold more money in reserves … as a regulation safeguard when the Fed was trying to avoid total economic collapse. Deposits, after all, are liabilities because depositors are guaranteed they can demand instant cash at will. Depositors get extremely unhappy if this guarantee is not fulfilled. That looks something like this:

Federal Reserve's Great Recovery Rewind is reducing reserves banks hold as protection against runs.

And you don’t want that.

The Fed funds rate is the Fed’s target rate for the amount of interest banks charge each other to make overnight loans to each other from their reserves. In a crisis, when banks need their reserves, the interest they charge each other will naturally skyrocket. To keep the monetary system from freezing up because banks won’t loan to each other, the Fed tries to push that rate down.

During the Fed’s Great-Recovery bond-buying program (quantitative easing), aimed at pushing that rate down, the Fed deposited huge amounts of money created out of thin air into bank reserve accounts to make sure they remained flush so there would be no panic runs on banks, but banks don’t like just sitting on huge piles of money, instead of making even more loans with those piles, especially after the crisis abates. The Fed, however, wanted them to continue to maintain those reserves in case crisis returned.

 …click on the above link to read the rest of the article…

In The Fed We Trust – Part 1

In The Fed We Trust – Part 1

This article is the first part of a two-part article. Due to its length and importance, we split it to help readers’ better digest the information. The purpose of the article is to define money and currency and discuss their differences and risks. It is with this knowledge that we can better appreciate the path that massive deficits and monetary tomfoolery are putting us on and what we can do to protect ourselves.   

How often do you think about what the dollar bills in your wallet or the pixel dollar signs in your bank account are? The correct definitions of currency and money are crucial to our understanding of an economy, investing and just as importantly, the social fabric of a nation. It’s time we tackle the differences between currency and money and within that conversation break the news to you that deficits do matter, TRUST me. 

At a basic level, currency can be anything that is broadly accepted as a medium of exchange that comes in standardized units. In current times, fiat currency is the currency of choice worldwide. Fiat currency is paper notes, coins, and digital 0s and 1s that are governed and regulated by central banks and/or governments. Note, we did not use the word guaranteed to describe the role of the central bank or government. The value and worth of a fiat currency rest solely on the TRUST of the receiver of the currency that it will retain its value and the TRUST that others will accept it in the future in exchange for goods and services. 

 …click on the above link to read the rest of the article…

Recession Already in Place, Watch Out – John Williams

Recession Already in Place, Watch Out – John Williams

You might be wondering why the Trump Administration is calling for rate cuts and money printing with all the good news about the economy. Economist John Williams of ShadowStats.com knows why and contends, “We have a recession in place. It’s just a matter of playing out in some of these other funny numbers. The reality is on the downside, where you have mixed pressures right now. People who are really concerned about the economy right now, and that includes President Trump looking at re-election, he’s been arguing that the Fed should lower rates, and I am with him. The Fed created this circumstance. They are pushing for the economy on the upside because they want to continue to keep raising rates. Banks make more money with higher rates, and they are still trying to liquidate the problems they created when they bailed out the banking system back in 2008.”

Williams strips out all the financial gimmicks in his work that make things look better than they really are to give a true picture of the real financial health. Take for example the recent reportedly good news of the trade deficit narrowing. Williams says, “What we saw was the very unusual narrowing of the deficit . . . that’s generally good news . . . but if you look at why the trade deficit was narrowing, it wasn’t that we were having new surging exports . . . instead, we were having collapsing domestic consumption.  People weren’t buying things. People were not buying goods. So, the imports were falling off, and that narrowed the deficit. That is not a healthy sign. The last time you saw something like that was the beginning of the Great Recession (2008–2009). . . . We still haven’t recovered from the Great Recession.”

 …click on the above link to read the rest of the article…

Uncertain Future for Monetary Policy as POTUS Publicly Calls for Rate Cut While Fed Holds Steady

trump and jerome powell

Photo by The White House

Uncertain Future for Monetary Policy as POTUS Publicly Calls for Rate Cut While Fed Holds Steady

On Tuesday, POTUS took to Twitter and called for the Fed to cut rates by 1%, pointing to 3.2% GDP growth and “wonderfully low inflation.”

China is adding great stimulus to its economy while at the same time keeping interest rates low. Our Federal Reserve has incessantly lifted interest rates, even though inflation is very low, and instituted a very big dose of quantitative tightening. We have the potential to go…

….up like a rocket if we did some lowering of rates, like one point, and some quantitative easing. Yes, we are doing very well at 3.2% GDP, but with our wonderfully low inflation, we could be setting major records &, at the same time, make our National Debt start to look small!

However, it’s hard to say if inflation is as “wonderfully low” as POTUS claims.

After all, official sources saw CPI inflation jump to 1.9%, with rapidly rising food prices reported as the leading cause. Plus, the “growing” economy POTUS alludes to appears to have topped out since January 2018 (see red arrow in the chart below – source):

DJIA Weekly Inflation

Additionally, according to an official source, a 3.2% or higher GDP growth rate has happened on 3 differentoccasions before POTUS took office. The same source also reports that GDP Growth Rate in the United States averaged 3.22 percent from 1947 until 2019. So really, current GDP growth only appears to be on par with the average.

White House officials including POTUS and top economic advisor Larry Kudlow have recommended the Fed cut rates by half a point in the past. Despite all the information above, CNBC reports that, with his 1% cut recommendation, POTUS has “doubled down” on this approach.

 …click on the above link to read the rest of the article…

The Company Store

The Company Store

Leaves almost nothing to live on

In the song Sixteen Tons by Merle Travis (and made famous by Tennessee Ernie Ford), the idea of the ‘company store’ referred to a system of debt bondage that effectively trapped workers within an unfair system designed to harvest all of their labor at very low cost.

You load sixteen tons, what do you get?

Another day older and deeper in debt

Saint Peter don’t you call me ’cause I can’t go

I owe my soul to the company store

       Sixteen Tons – Merle Travis

How exactly did the company store system operate?

Under a scrip system, workers were not paid cash; rather they were paid with non-transferable credit vouchers that could be exchanged only for goods sold at the company store. This made it impossible for workers to store up cash savings.

Workers also usually lived in company-owned dormitories or houses, the rent for which was automatically deducted from their pay.

(Source – Wiki)

This model was simple enough to understand.  “Pay” your workers with scrip vouchers, then sell them your marked up goods at the company store, pocketing a nice profit. On top of that, force your employees to live in company housing, too,  also at terms very favorable to the company.

Add it all up and the workers found themselves in perpetual service to their employer. No matter how hard and long they toiled, there was nothing left for their own private benefit after all was said and done.  The company succeeded in skimming off any and all  ‘excess’ for itself.

This vast unfairness eventually led to the formation of unions as well as to regulations providing protection to the workers.

 …click on the above link to read the rest of the article…

One Bank Asks “Is The Fed Losing Control Of The Interest Rate System”

One Bank Asks “Is The Fed Losing Control Of The Interest Rate System”

Last Wednesday, before the Fed “unexpectedly” cut its IOER rate by 5bps o 2.35%, we warned that the “Fed Loses Control Of Rates” when pointing out the ongoing divergence of the effective fed funds rate from the Overnight Repo – IOER rate corridor.

Now, one week later and following the Fed’s admission that even it was surprised by how quickly the overnight funding market plumbing had gotten clogged up, others are starting to ask the very question we posed a week ago.

In a note published overnight by Rabobank’s Phillip Marey, the US strategist – just like us – asks “Is the Fed losing control of the policy rate system?” Needless to say, the answer could have profound implications not only for the future of US monetary policy, but whether or not the dollar can remain as the world’s reserve currency in a world in which the US central bank loses the ability to set the price of money.

Here’s Marey’s full note:

The pause continues

The FOMC statement noted that economic activity rose at a solid rate, but repeated that household spending and business fixed investment slowed in the first quarter. The Fed repeated that job gains have been solid, on average, in recent months, and dropped the reference to the weak February nonfarm payroll figure. The Fed also noted that core inflation has declined and is running below 2%. At the press conference, Powell said that the data are not pushing the FOMC in either direction. The Committee does not see a strong case for a rate move either way.

 …click on the above link to read the rest of the article…

The Fed’s Dangerous Inflation Game

The Fed’s Dangerous Inflation Game

The Fed’s Dangerous Inflation Game

By now you’ve heard that the U.S. economy expanded at an annualized rate of 3.2% in the first quarter of 2019. That was reported by the Commerce Department last Friday morning.

That strong growth coming on top of 4.2% in Q2 2018 and 3.4% in Q3 2018 means that in the past twelve months, the U.S. economy has expanded at about a 3.25% annualized rate. That’s a full point higher than the average growth rate since June 2009 when the expansion began and it’s in line with the 3.22% growth rate of the average expansion since 1980.

It looks as if the “new normal” is back to the old normal of 3% or higher trend growth. Or is it?

The headline growth rate of 3.2% was certainly good news. But, the underlying data was much less encouraging. Most of the growth came from inventory accumulation and government spending (mostly on highway projects). But, business won’t keep building inventories if final demand isn’t there. That’s where the 0.8% growth in personal consumption is troubling.

The consumer didn’t show up for the party in the first quarter.

If they don’t show up soon, that inventory number will fall off a cliff. Likewise, the government spending number looks like a one-time boost; you can’t build the same highway twice. Early signs are that the second quarter is off to a weak start.

Dig deeper and you can see that core PCE (the Fed’s preferred inflation metric) cratered from 1.8% to 1.3%. That’s strong disinflation and dangerously close to outright deflation, which is the Fed’s worst nightmare.

The data just show that the Fed is as far away as ever from its 2% target. But why should it even have 2% as its target?

 …click on the above link to read the rest of the article…

Olduvai IV: Courage
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Olduvai II: Exodus
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Olduvai III: Cataclysm
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