“Speak softly and carry a big stick” President Theodore Roosevelt on foreign policy.
In other words, let your actions, not your words set the tone.
It appears the Fed may be taking the opposite tack. Many Fed members are vocal about tapering soon, but there is reason to believe the Fed will not back their words with action.
Might the Fed be speaking loudly and carrying a feather?
Expectations for the Fed to turn “hawkish” and announce a tapering schedule at the next meeting or two are high. A recent Wall Street Journal article hints at an announcement at the September 2021 meeting and tapering in November. The solid economic recovery, coupled with gains in employment and a higher than the target inflation rate, supports such an action.
We think the Wall Street Journal timetable is correct. However, an analysis of the composition of the Fed by voting status and their degree of influence leads us to keep an open mind.
Hawkish Winds Are Blowing
The quotes below from various Fed members speak to a sense of urgency to begin tapering QE.
“It would be my view that if the economy unfolds between now and our September meeting … if it unfolds the way I expect, I would be in favor of announcing a plan at the September meeting and beginning tapering in October,” Robert Kaplan Dallas Fed August 2021
“My preference would be to get to a decision in September and start sometime after that,” Bullard told reporters on Friday after giving a virtual speech. “My main goal would be to get done by the end of the first quarter.”– James Bullard St. Louis Fed per Bloomberg July 2021
“We should go early and go fast, in order to make sure we’re in position to raise rates in 2022, if we have to,” Fed governor Christopher Waller August 2021
“Philadelphia Federal Reserve Bank President Patrick Harker said on Friday that he still supports tapering the central bank’s asset purchases sooner rather than later.” Reuters- August 2021
“Fed’s Bostic Urges Faster Bond Taper as Economy Strengthens” Bloomberg August 2021
“I’m less precise about amounts and dates, and really more focused on saying: Sooner rather than later,” Esther George Kansas City Fed August 2021
Why So Hawkish?
The most recent Fed’s Beige Book,describing economic conditions in each of the 12 Federal Reserve Districts, explains why many members are concerned with inflation and eager to taper.
The document starts with a one-paragraph highlight from each district. As shown below, all the summaries include a statement on labor shortages and or wage pressures. The topic is top of mind at the Fed, as it should be. If there are widespread job shortages and intense hiring pressures, as seen in the record number of job openings, wages may continue to rise and foster more inflation.
Boston: “inability to get supplies and to hire workers.”
New York: “businesses reporting widespread labor shortages.”
Philadelphia: “while labor shortages and supply chain disruptions continued apace.”
Cleveland: “Staff levels increased modestly amid intense labor shortages.”
Richmond: “many firms faced shortages and higher costs for both labor and non-labor inputs.”
Atlanta: “wage pressures became more widespread.”
Chicago: “Wages and prices increased strongly while financial conditions slightly improved”
St. Louis: “Contacts continued to report that labor and material shortages.”
Minneapolis: “hiring demand continued to outstrip labor response by a wide margin.”
Kansas City: “Wages grew at a robust pace, but labor shortages persist.”
Dallas: “Wage and price growth remained elevated amid widespread labor and supply chain shortages.”
San Francisco: “Hiring activity intensified further, as did upward pressures on wages and inflation.”
Recent market gyrations highlight investors are paying close attention to the quotes above and many others like it.
The cries for taper are easy to justify. Justification is one thing, but monetary policy decisions are based on the decisions of the Federal Open Market Committee (FOMC).
The FOMC currently has 18 members, but only 11 are eligible to vote on monetary policy. The other members can only influence the committee.
The chart below, from InTouch Capital Markets, provides the names and positions of the 18 members. Importantly it shows their voting eligibility and sorts them by their policy stance.
There are six members Intouch deems dovish or more willing to continue an excessive monetary policy. They seek more affirmation of economic recovery before changing policy.
There are two members deemed neutral, leaving the FOMC with ten hawkish members. Many of the hawks are outspoken about the need to taper QE sooner rather than later. At first glance, it appears the hawks can steer policy.
Hawks vs. Doves
The hawk/dove breakdown favors the hawks and their calls to taper. Nevertheless, we must also consider voting eligibility and influence.
When only contemplating the 11 voting members, the doves have the majority. Five of the six doves can vote this year, while only four of the ten hawks can vote in 2021. The two other voters are neutral.
More important than the number of hawkish or dovish votes is the level of influence each member has on policy decisions. Chairman Powell, a dove, is the lead decision-maker at the Fed. While he may aim for a strong consensus, he ultimately makes the decisions.
Next in line behind Powell is the neutral Vice Chair, Richard Clarida. Behind him, the New York Fed President John Williams is dovish and wields clout. The New York Fed manages the trading operations supporting Fed policy and influences the largest banks and brokers. Lastly is another dove in board member Lael Brainard. She is a candidate to replace Powell when his term ends next year. Beyond the Chair, Vice-Chair, and President of the New York Fed, Brainard probably has the most influence on the committee.
Of the four most influential voters, one is neutral, and three are dovish.
Dissension in the Ranks
The analysis thus far argues the loud tone from the hawkish Fed members is secondary to Chair Powell and the other Fed influencers. The markets acknowledged this with a strong rally following Chair Powell’s dovish address at the Jackson Hole Symposium. While some thought he might take a step toward announcing a taper time frame, he was non-committal, preferring to wait for more economic data.
The Fed meets on September 22nd. They may acknowledge some concern about inflation. They will also discuss the continuing recovery of the labor market. Despite grossly exceeding their inflation goal and making significant progress toward their employment goal, they may hold off announcing a tapering schedule.
If this proves to be the case, the number of dissenting voters is meaningful. Voters would dissent because they want to taper immediately. Many hawks are satisfied that the job market is on the road to recovery and are concerned about inflationary pressures.
Will they dissent? One or two dissents, while not frequent, are not uncommon either. The market reaction might be muted to a bit of friction. Where we offer caution is if the number of dissenting voters totals four or five or even more.
It’s apparent by market behaviors investors care much more about the amount of Fed liquidity than economic data, valuations, and fundamentals. The graph below from Bridgewater shows Fed liquidity trumps fundamentals at a level not seen in at least the last 50 years.
As we wrote in AMC Foolishness Comes At A Dear Cost:
“Bad economic news is good news for share prices because it ensures the Fed will provide stimulus for longer.”
Most investors agree delaying tapering is good for the market. Conversely, removing liquidity via tapering, given such high valuations, portends risks. While Powell and his dovish clan may put off tapering, investors will not take multiple dissensions lightly.
Powell, in the last few months of his term, must thread the needle. He likely wants to avoid a market meltdown so he can be reappointed. At the same time, he needs to show he has complete control of the Fed.
If he can corral the hawks and get them to agree on a later time frame for taper, he might accomplish his personal goal of another term while keeping markets afloat a while longer. If investors believe he is losing control of the Fed, he not only faces market volatility but the potential to lose his job.
All Eyes On Inventory
You’ve heard of the virtuous circle in the economy. Risk taking leads to spending/investment/hiring, which then leads to more spending/investment/hiring….
You’ve heard of the virtuous circle in the economy. Risk taking leads to spending/investment/hiring, which then leads to more spending/investment/hiring. Recovery, in other words.
In the old days of the 20th century, quite a lot of the circle was rounded out by the inventory cycle. Both recession and recovery would depend upon how much additional product floated up and down the supply chain. Deflation, too.
On the contraction side, demand might fall off a bit for whatever reason(s), retailers getting stuck with a small inventory overhang. If they think it more than temporary, or don’t have the internal cash to finance it, the retail level scales back pushing inventory to wholesalers who then cut orders from producers.
Serious enough, producers begin to cut back their own activities, maybe to the point of forgoing new hires, perhaps laying off some workers already employed. Whatever necessary to equalize reduced order flow with cost structure and input utility.
When those layoffs hit, almost certainly it cuts further into demand (unemployed workers are far more careful and constrained consumers), more inventory stuck at retailers and wholesalers, then even fewer orders for producers who must sharpen their payroll axe all over again. This vicious cycle is what used to make up the balance of any recession.
But what if inventory first accumulates for other reasons?
It may be a different look to the cycle, though not necessarily an entirely different outcome. Suppose retailers (outside of automobiles) grow concerned about supply availability or shipping times. They might naturally react by boosting their current order flow if only to increase their chances some product makes it through the clogged shipping channels.
As that increased order flow unrelated to demand continues to move back through the supply chain, it probably would only make the transportation issues that much worse. It’s already a mess, and because it’s already a mess the entire supply chain tries to stuff more goods through it rather than less, rather than giving the system some time and space to work out enough kinks.
This, of course, would probably convince retailers to do it all over again, ordering even more they don’t need now or in the near future, now more desperate to try and raise their chances of receiving anything. More trouble for the shippers and so on.
Having intentionally over-ordered, and then over-ordered again (and again?), this time what happens when the logistics get more sorted out and then deliveries rather than trickle through come pouring out? This is the cyclical question for early 2022, not the unemployment rate.
Some companies have said they are ready, and have confidently declared how they will be able to manage holding such excessive levels of product. Maybe they can. But what happens to orders down at the lower reaches? Having received all this extra inventory, retailers and wholesalers aren’t going to keep double and triple ordering.
Before even getting to demand considerations, the orders are going to drop and producers are going to become less busy. The inventory glut having been forwarded up to the retail level, maybe wholesale, it will have to be worked down over time.
This is where demand comes into it. If demand stays as robust as some might currently assume, it might not take that much time to normalize inventory, then get past the whole issue and imbalance with nothing much lost.
And if demand isn’t as good, then we’re right back into the 20th century again.
The way the supply bottlenecks of 2021 have worked out, there is going to be an inventory overhang at some point. When it does come about and how bad it will be, that’s really the demand question. There seems to be quite a bit of optimism about it, to the point of complacency while corporate CEO’s bark in the media instead about all the massive inflation they plan on throwing your way.
Inflation today (therefore not inflation) but potentially too many goods tomorrow. However the inventory cycle manifests, the one thing each would have in common is its trough – disinflationary at the least.
Manufacturing PMI’s, for what it’s worth, remain elevated as if the upward segment of that unusual cycle remains relatively intact (note: ISM for September won’t be released for another week). With ships still stacking up on the US West Coast, this makes sense. Regardless of current levels of demand, these supply problems would only feed the imbalance for another month.
IHS Markit’s manufacturing index retreated again for the flash September 2021 estimate, but it remains above 60 therefore still in the post-2008 stratosphere. At 60.5 in the latest update, it is down, though, for the second month in a row since hitting the high of 63.4 back in July. And the index was 62.6 back in May, meaning it’s been four months treading.
It is the services side which has materially declined, leading many to assume it must be due to delta COVID if goods flow is largely uninterrupted at the same time. Markit’s services PMI dropped to 54.4 in September from 55.1 in August, while its employment component fell back to just 50.
This meant the composite, accounting for both manufacturing and services, declined to a very similar 54.5. Using this measure as a guide for possible GDP in Q3, that’s working down to a very disappointing 3% or less which might otherwise raise suspicions when it comes to the sustainability of demand.
If this more serious setback really is pandemic-related, then thinking it a temporary one might keep up the order flow as well as the logistical nightmare. Then the artificial inventory cycle gets even more artificial.
It could very well be that manufacturing remains high because of inventory and not because current potential weakness is only about delta.
Should it turn out to be unrelated, or only somewhat attributable to renewed disease measures, then inventory stops being a pesky annoyance of shipping bottlenecks and potentially starts being more like its old self. While that wouldn’t necessarily mean recession in early 2022, even a substantial downturn (chances would have it globally synchronized) having yet fully recovered from the last two would be enough trouble.
This Has To Be A Mistake
This Has To Be A Mistake
While we were digging through the data for today’s household net worth report we stumbled upon something that seem…
While we were digging through the data for today's household net worth report we stumbled upon something that seem beyond ridiculous: the ratio of Household Net Worth to Disposable Net Income. At 786% in the latest quarter, the chart at first appears to be a mistake but we triple checked it, and... well, here it is.
The latest, all-time high print is an increase from 698% in Q1 and also represents the biggest quarterly increase in history!
This number is so ridiculous, it is almost 50% higher than the long-term average of 540%. More importantly, it means that the total net worth number we reported earlier today, which in Q2 hit a record high of $142 trillion, is massively inflated on the back of what is obviously the biggest asset bubble on record.
It also means that if one were to strip away the asset bubble, and net worth was purely a reasonable function of disposable income, then total net worth worth be haircut by 31%, or some $43 trillion, which incidentally, is equivalent to the net worth of the top 1% of US society...
... and which as we showed earlier today is a record 32% of total household net worth.
As an aside, the fact that the top 1% have gained $10 trillion in wealth since the covid pandemic outbreak, is probably just a coincidence, and yet...
Covid has been the best thing ever to happen to the wealthy and powerful. No wonder they don’t want it to end— Hipster (@Hipster_Trader) September 23, 2021
As for the chart which clearly has to be a mistake, we are sad to report that it isn't, and as politicians of both the Democrat and Republican party pretend to fight for the common man, all they are doing is enabling and accelerating the greatest wealth transfer in the world but not for nothing: they too want to be in the top 1%.
“Culture As An Asset”
#CKStrong Stunning. Hedge funds hoovering up trading cards as an “alternative to equities” with the same passion Brooks Robinson hoovered up ground…
Stunning. Hedge funds hoovering up trading cards as an “alternative to equities” with the same passion Brooks Robinson hoovered up ground balls.
This is usually a sign of the endgame for markets, i.e,, the precursor to a bear market. Think the “Great Beanie Baby Bubble” of 1999.
In general, there are two types of assets,
- They can be rare—gold bars, diamonds, houses on Victoria Peak, bottles of 1982 Pétrus, Van Gogh paintings, stamps, beanie babies, or baseball cards or
- They can generate cash flows over time – GaveKal
Creating An Illusion Of Scarcity
Scarcity relative to the money stock is what its all about now, folks.
It probably won’t be long before the Fed has to bailout the baseball card market, no?
Full disclosure, I do own a Mike Trout rookie card.
Given the extreme valuations of all most all asset classes, coupled with the massive amount of money in the global financial system, markets are now really stretching, looking for, and actually attempting to create scarcity as a useful delusion to justify, rationalize, and drive speculation.
Maybe I will start collecting poop as an “anthropological asset,” put it the blockchain and super charge the price ramp by snapping a few pictures of each sample, converting them to NFTs to load up to the internet.
Then again, maybe all this is signaling the start of a big, big inflation cycle and the markets are looking to get out of cash and protect their purchasing power. But that’s too rational.
Can you believe what markets have become, folks? It is hard to see clearly when everybody is making money.
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