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“Don’t Fight The Fed”

"Don’t Fight The Fed." But, unfortunately, that mantra has remained a "call to arms" of the financial markets and media "bullish tribes" over the last…



This article was originally published by Real Investment Advice

“Don’t Fight The Fed.” But, unfortunately, that mantra has remained a “call to arms” of the financial markets and media “bullish tribes” over the last decade.

Armed with zero interest rate policy and the most aggressive monetary campaign in history, investors elevated the financial markets to heights only rarely seen in human history. Yet, despite record valuations, pandemics, warnings, and inflationary pressures, the “animal spirit” fostered by an undeniable “faith in the Federal Reserve” remain alive and well.

Of course, the rise in “animal spirits” is simply the reflection of the rising delusion of investors who frantically cling to data points that somehow support the notion “this time is different.” As David Einhorn once stated:

“The bulls explain that traditional valuation metrics no longer apply to certain stocks. The longs are confident that everyone else who holds these stocks understands the dynamic and won’t sell either. With holders reluctant to sell, the stocks can only go up – seemingly to infinity and beyond. We have seen this before.

There was no catalyst that we know of that burst the dot-com bubble in March 2000, and we don’t have a particular catalyst in mind here. That said, the top will be the top, and it’s hard to predict when it will happen.”

Is this time different? Most likely not. Such was a point James Montier noted recently,

Current arguments as to why this time is different are cloaked in the economics of secular stagnation and standard finance workhorses like the equity risk premium model. Whilst these may lend a veneer of respectability to those dangerous words, taking arguments at face value without considering the evidence seems to me, at least, to be a common link with previous bubbles.

Mental Gymnastics

While the “bulls” are adamant, you shouldn’t “fight the Fed” when monetary policy is loose, they say the same when it reverses. Such got evidenced by Fisher Investments arguing rate hikes are NOT bad for stocks.

“Many pundits blaming 2018’s stock market decline on that year’s Fed hikes. While we can’t predict Fed policy from here, we can correct the record on 2018, which we think had very little to do with the Fed.

Fisher does “mental gymnastics” to suggest the sell-off in 2018 was due to forces other than the Fed. However, what reversed the “bullish psychology” was evident.

“The really extremely accommodative low-interest rates that we needed when the economy was quite weak, we don’t need those anymore. They’re not appropriate anymore. Interest rates are still accommodative, but we’re gradually moving to a place where they will be neutral. We may go past neutral, but we’re a long way from neutral at this point, probably.” – Jerome Powell, Oct 3rd, 2018

That sharp sell-off in the chart above started following that statement from Jerome Powell. Why? Because even though the Fed had already started hiking rates previously, the comment suggested much tighter policy to come.

What reversed that “bear market psychology” just two months later? The Fed’s reversal on their “neutral stance.”

“Where we are right now is the lower end of neutral. There are implications for that. Monetary policymaking is a forward-looking exercise, and I’m just going to stick with that. There’s real uncertainty about the pace and the destination of further rate increases, and we’re going to be letting incoming data inform our thinking about the appropriate path.” – Jerome Powell, Dec 18th, 2019

By the summer of 2019, the Fed’s interest rates returned to ZERO.

Why did the market rally?

“Don’t fight the Fed.”

Never Fight The Fed

“Rate hikes aren’t inherently bearish, in our view. Like every monetary policy decision, whether they are a net benefit or detriment depends on market and economic conditions at the time, including how they affect the risk of a deep, prolonged, global yield curve inversion. 2018’s rate hikes flattened the yield curve, but they didn’t invert it.” – Fisher Investments

They are. It is just a function of timing between the first rate hike and when something eventually breaks the “bullish psychology.” As we discussed previously:

“In the short term, the economy and the markets (due to the current momentum) can  DEFY the laws of financial gravity as interest rates rise. However, as interest rates increase, they act as a “brake” on economic activity. Such is because higher rates NEGATIVELY impact a highly levered economy:”

Fisher is correct that rates may not impact the financial markets in the short term. However, most of the gains got forfeited in every instance as interest rates slowed economic growth, reduced earnings, or created some crisis.

Fed funds 10-year rates and crisis events

Most importantly, a much higher degree of reversion occurs when the Fed tightens monetary policy during elevated valuations. For example, beginning in 1960, with valuations over 20x earnings, the Fed started a long-term rate-hiking campaign that resulted in three bear markets, two recessions, and a debt crisis. The following three times when the Fed hiked rates with valuations above 20x, outcomes ranged from bear markets to some credit crisis needing bailouts.

stock market valuation and Fed funds

Yes, rate hikes matter, and they matter more when there are elevated valuations.

I Fought The Fed, And The Fed Won

The primary bullish argument for owning stocks over the last decade is that low-interest rates support high valuations.

The assumption is the present value of future cash flows from equities rises, and subsequently, so should their valuation. Assuming all else is equal, a falling discount rate does suggest a higher valuation. However, as Cliff Asness noted previously, that argument has little validity.

“Instead of regarding stocks as a fixed-rate bond with known nominal coupons, one must think of stocks as a floating-rate bond whose coupons will float with nominal earnings growth. In this analogy, the stock market’s P/E is like the price of a floating-rate bond. In most cases, despite moves in interest rates, the price of a floating-rate bond changes little, and likewise the rational P/E for the stock market moves little.” – Cliff Asness

The problem for the bulls is simple:

“You can’t have it both ways.”

Either low-interest rates are bullish, or high rates are bullish. Unfortunately, they can’t be both.

As noted, rising interest rates correlate to rising equity prices due to market participants’ “risk-on” psychology. However, that correlation cuts both ways. When rising rates reduce earnings, economic growth, and investor sentiment, the “risk-off” trade (bonds) is where money flows.

With exceptionally high market valuations, the market can remain correlated to rising rates for a while longer. However, at some point, rates will matter.

This time will not be different. Only the catalyst, magnitude, and duration will be.

Investors would do well to remember the words of the then-chairman of the Securities and Exchange Commission Arthur Levitt in a 1998 speech entitled “The Numbers Game:”

“While the temptations are great, and the pressures strong, illusions in numbers are only that—ephemeral, and ultimately self-destructive.”

You can fight the Fed, but eventually, the Fed will win.

The post “Don’t Fight The Fed” appeared first on RIA.


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monetary policy

Author: Lance Roberts


Crypto market stabilises, but one analyst sees BTC dipping as low as US$25-$28k

Cryptos have stabilised somewhat after the weekend crash, but some are predicting there could be more damage to come. Bitcoin … Read More
The post Crypto…

Cryptos have stabilised somewhat after the weekend crash, but some are predicting there could be more damage to come.

Bitcoin was trading at lunchtime (Sydney time) at US$35,965, up 1.7 per cent from 24 hours ago. At 11am AEDT (midnight UTC), its weekly candle closed at US$36,100, after the original cryptocurrency hit a six month low of $US34,350 over the weekend.

City Index analyst Tony Sycamore wrote that Friday’s break below US$39,500 was a sign that further weakness was likely towards support at the June low of $28,600 and 25,000 (wave equality from the $69,000 high).

Pepperstone analyst Chris Weston told Ausbiz TV that he thought one reason for the crash was that last week US Securities and Exchange Commission chairman Gary Gensler announced he wanted to increase regulation on crypto exchanges.

“It was sort of hitting a market that was already in freefall and obviously trending lower, there was sort of a momentum move there…so obviously, in a decentralised world, you can’t really outlaw crypto, but what you can do is go after the first derivative of what, which is of course if the way of getting fiat in the system through the exchanges.”

Weston said he saw crypto as a “high beta macro play more than anything else” and as liquidity comes out of the market with interest rates rising, he expects that people will be selling rallies.

“The bigger picture here is a market front-running and moving out, and not fighting the Fed,” he said.

Crypto market up 3% in past 24 hours

While the crypto market was up 3.0 per cent to US$1.66 trillion at lunchtime, the selloff has left most coins deeply in the red for 2022.

Of the top 100 (non-stablecoins), just five cryptos are higher from where they started the year: Osmosis (up 54 per cent); Cosmos (9.2 per cent); Secret Network (8.4 per cent); Ecomi (5.3 per cent) and Fantom (4.9 per cent).

Everything else is in the red, with the biggest laggard being Filecoin, down 44.7 per cent since the beginning of the year.

BTC is down 23.4 per cent and Ethereum, 32.4 per cent.

Ethereum was trading at US$2,491 after dipping as low as $2,330 over the weekend.

Getty Images


The post Crypto market stabilises, but one analyst sees BTC dipping as low as US$25-$28k appeared first on Stockhead.

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Author: Derek Rose

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Biden Already Blames Powell For The Democrats’ House And Senate Losses In November

Biden Already Blames Powell For The Democrats’ House And Senate Losses In November

By Eric Peters, CIO of One River Asset Management


Biden Already Blames Powell For The Democrats’ House And Senate Losses In November

By Eric Peters, CIO of One River Asset Management

Powell reluctantly turned on the television, Biden’s press conference underway.

“Covid-19 has created a lot of economic complications, including rapid price increases across the world economy. People see it at the gas pump, the grocery stores, elsewhere,” said America’s president, panicked, but careful, staying on script. “The Federal Reserve provided extraordinary support during the crisis for the previous year and a half,” continued Biden.

“Given the strength of our economy and pace of recent price increases, it’s appropriate – as Fed Chairman Powell has indicated – to recalibrate the support that is now necessary.”

Stock markets extended losses, the most speculative assets suffering horribly. “The critical job of making sure elevated prices don’t become entrenched rests with the Federal Reserve, which has a dual mandate: full employment and stable prices,” explained Biden, carefully pre-apportioning blame to the Fed Chairman for the Democrat’s House and Senate losses this coming November.

Source: PredictIt

Powell drifted back to simpler times, in 2018, when his job was easy, but his boss would berate him. “I’m just saying this: I’m very unhappy with the Fed because Obama had zero interest rates,” Trump told the WSJ in October 2018, “Every time we do something great, he raises the interest rates.”

Powell considered how profoundly times had changed. In his 2018 hiking cycle, it took 225bps of rate hikes to tank stocks.

But that was before Covid-19, economic collapse, and vast deficits, funded by the Fed. It was before inequality soared to levels previously undreamed of.  Before supply chains were impaired, auto and house prices surged, inflation hit 7%, and real wages contracted.

And it pre-dated the breathtaking hyper-financialization of the US economy, which meant that even talking about rate hikes now produces wild market swings.

Such is the precarious state of financial markets that their prices are falling sharply because the Fed is verbally tightening, even as it is still actually easing. And Powell quietly wondered what his new boss would demand he do, if markets were to plunge, while inflation remains near 40yr highs.

Tyler Durden
Sun, 01/23/2022 – 17:50

Author: Tyler Durden

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Sifting Through the Bad News for Our Next Profit Opportunities

Naturally, with the current stock market environment, investors are concerned. Why? The S&P 500 has dropped 5.17% from its all-time highs to the low…

Naturally, with the current stock market environment, investors are concerned. Why? The S&P 500 has dropped 5.17% from its all-time highs to the low on Tuesday.

Source: Shutterstock

Although stock market drops are usually faster than stock market rallies, the two weeks it took to drop this far are a little slower than average for a bearish move. This indicates that although sentiment is negative, there isn’t any panic.

Is the decline related to the Fed raising rates, rising inflation, the Omicron variant causing work and school outages, or is this a natural retracement following a rally? Although this is probably a combination of all four factors, the connection with the Fed is tough to ignore.

More and more, this is starting to feel like last September when concerns about the Fed were driving long-term rates higher very quickly. Like it did last fall, the yield on the 10-year treasury has jumped nearly 10% since Friday… which is cause for concern.

However, we’re not worried; as we have said many times over the last few weeks, bear markets are scarce when earnings growth rates are still positive. Now that we have a few more reports under our belt, the early fourth-quarter reports look good, although there have been a few misses that were disruptive — like JPMorgan Chase & Co. (NYSE:JPM), The Goldman Sachs Group (NYSE:GS), etc.).

Stock market volatility is high, which isn’t unusual for earnings season, but the pace of rising rates has made traders a bit more bearish than usual.

As long as earnings continue to look positive, we will watch the stock market indices’ technical levels to confirm that a bounce is coming before the end of the month.

Trading Opportunities for This Week

The weekly unemployment claims numbers are usually not worth paying much attention to. The data is noisy and does not have a good correlation with the stock market. However, the exception to that rule is when the number of new claims of unemployment is unusually high.

Wednesday’s weekly unemployment claims release isn’t as shocking as the levels of the pandemic, but it was a big jump up from 230K new claims last week to 286K claims this week. This is not good news, but it should add weight to our view that the stock market is nearing support.

Traders are trying to price in the effect of the Fed tapering its bond-purchase program and its plans to raise the overnight rate this year. We think traders have probably overshot the impact, and long-term rates are likely to consolidate or fall in February. What may help that happen is if traders see this week’s unemployment claims numbers as an incentive for the Fed to be more patient with its tightening plans.

The old “bad news is good news” phenomenon isn’t a new idea; we have seen this play out many times over the last few years. At this point, it is still speculation, but we wouldn’t be surprised at all if the stock market popped up this week because of the bad news rather than in spite of it.

Moreover, rising Treasury yields have been pushing a lot of stocks lower this week, but we’ve got two stocks in our portfolio that are seeing big bounces this week.

This provides an excellent opportunity to sell covered calls against them. Call options increase in value when the underlying stock is rising, so by selling covered calls when the underlying stock is rising, you guarantee you’re going to bring in more income than if you sell the covered calls when the underlying stock is falling.

Could this be behind the next wave of millionaires?

We targeted two plays with this approach — and it’s not the first time we’ve done so.

As you can see from the chart below, we’ve had overarching success with plays like these… so we’re confident that these recommendations may work out the same.

There’s still time to get in on these trades — and others we recommend. Just click here to learn how to gain access.

We’ll be back with you next week.


John Jagerson & Wade Hansen
Editors, Trading Opportunites

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