Hope all goes well… Twenty-five years ago today, two Nobel laureate economists and a famous bond trader received a $3.65bln bailout from fourteen financial institutions at the behest of the Federal Reserve. LTCM had delivered a 21% net return in its first year. 43% in the second. 41% in the third. Greed, hubris, leverage, illiquidity, and lack of imagination led to the inevitable. A year later, Japan cut rates to zero, started QE in 2001. This sparked the introduction of ever more powerful policy tools to address crises, which manifested regularly, with growing intensity. Decades passed. There appeared no limit to what could be achieved using such exciting new tools. But of course, that was simply the start of the latest chapter. In the oldest story ever told.
“I would say you know ‘sufficiently restrictive’ only when you see it,” said the Fed Chairman at Wednesday’s press conference, echoing Supreme Court Justice Goldberg, who in 1964 drew a blurred line between art and obscenity in motion pictures. “It's not something you can arrive at with confidence in a model or in various estimates, you know,” continued Powell, a big fat crayon in his breast pocket. “I think confidence comes from seeing, you know, enough data that you feel like, yes, okay, this feels like we can for now decide that this is the right level and just agree to stay here,” explained Jay, terrified to admit how the discussion amongst his twelve governors had gone. Unable to quite articulate their definition of ‘sufficiently restrictive,’ the committee members drew pictures instead. “Nonetheless, you know, we need to get to a place where we’re confident that we have a stance that will bring inflation down to 2 percent over time,” said Powell to the room of reporters, still haunted by the drawings of his fellow board members, images that could not be unseen. Naturally, many of them included depictions of the years spent with policy tied to the zero lower bound, printing presses burring, purring, moaning under the strain of lifting consumer prices by a few tenths of a percent to achieve an utterly arbitrary target. The resulting wild economic distortions, inhuman contortions, crept in the shadows, suppressed for years. Then came the virus, masks, debt fueled consumption, gluttony, global conflict. The twelve drawings were at once beautiful, grotesque, enigmatic, an insult to the senses. But not a single image helped the Chairman put his finger on what exactly it meant to be sufficiently restrictive. And this left Jay grasping, uncertain how he’d ever return us to a state of normality, prudence. But no matter, a Fed Chairman’s job is to convey confidence, pretend. “As we’ve gotten closer to it, we’ve slowed the pace at which we’ve moved. I think that was appropriate. And now that we’re getting closer, again, we have the ability to proceed carefully.”
UAW’s Shawn Fain rejects 21% raise offer from Stellantis – still far apart on deal, US intelligence suggests China’s defense minister has been removed from his post, China’s gas expts rose to highest level, rumors that ECB may address excess liquidity in banking system by raising RRR, ECB’s Kasimir hopes done hiking / Villeroy favors a long pause, China August fiscal spending exceeded revenue for first time in 6m, Poland CPI Core 10% (10.1%e), Canada Housing Starts 252.8k (250.0k e), US NAHB housing mkt index 45 (49e), S&P +0.1%; Brent crude tops $95/barrel, UAW threatens to extend strike if no progress by Friday, China removes foreign minister amid personal scandal, China data shows worst capital flight ($49b) since 2015, India rejects Trudeau’s allegation of assassination of Canadian citizen, Yellen says JPY intervention understandable if due to volatility, EU CPI 5.2% (5.3%e) / Core 5.3% as exp, Brazil eco activity 0.66% (1.00%e), US housing starts 1.283m (1.439m e), Canada CPI 4.0% (3.8%e), S&P -0.2%; Fed unch as exp (5.25-5.50%) / ’24 & ’25 dots show few cuts (50bp higher each) / Powell emphasizes proceeding cautiously but alludes to possibly higher neutral rate, PBOC left 1y/5y LPR unch / Zou says ample room for more policy easing / PBOC sets CNY fix much stronger than exp (2nd largest gap vs exp ever), EIA stats modestly bearish drives crude oil off the highs, Polish CB gov Glapinski noted that room for mor cuts has narrowed, S. Korea PPI 1% (-0.2%p), Germany PPI -12.6% (-12.5%e), UK CPI 6.7% (7.0%e) / Core 6.2% (6.8%e) / RPI 9.1% (9.3%e), S. Africa CPI 4.8% as exp / Core 4.8% (4.7%e), S. Africa ret sales -1.8% (-1.1%e), Poland PPI -2.8% (-2.9%e), UK house prices 0.6% (0%e), S&P -0.9%; BoE unch as became exp following previous days soft infl print / increases QT, Riksbank hikes 25bp as exp, Norges hikes 25bps / signals another hike, BCB cuts 50bp as exp, SNB unch (25bp hike exp), S. Africa CB unch as exp, Turkey CB hikes 500bp as exp, Indonesia unch as exp, Russia bans gas/diesel exports to stabilize domestic economy, N. Zealand 2Q GDP 1.8% (1.2%e), US public sector borrowing 11.6b (11.1b exp), France mfg confidence 99 (95e), Poland ret sales 3.1% (1.6%e), Mexico Retail sales 5.1% (4.9%e), US init claims 201k (225k e), US existing home sales 4.04m (4.1m exp), EU cons conf -17.8 (-16.5e), US Leading index -0.4% (-0.5%e), S&P -1.6%; BoJ unch as exp, JPM to add India to benchmark EM bond index (starting 6/2024), Biden announces final restrictions on semiconductor companies expansion in China, US / China establishing 2 working groups to discuss economic/financial issues, Japan CPI 3.2% (3.0%e), UK cons conf -21 (-26e), Japan CPI 3.2% (3%e) / Core CPI 4.3% as exp, UK Retail sales -1.2% (-1.4%e), EU mfg PMI 43.4 (44.0e) / serv 48.4 (47.6e) / comp 47.1 (46.5e), UK mfg PMI 44.2 (43.2e) / serv 47.2 (49.4e) / comp 46.8 (48.7e), Mexico Eco activity 3.19% (3.60%e), US mfg PMI 48.9 (48.2e) / serv 50.2 (50.7e) / comp 50.1 (50.4e), S&P -0.2%.
S&P 500 -2.9% and VIX +3.41 at +17.20. Nikkei -3.4%, Shanghai +0.5%, Euro Stoxx -1.9%, Bovespa -2.3%, MSCI World -2.7%, and MSCI Emerging -2.1%. USD rose +1.5% vs Brazil, +1.3% vs Ethereum, +1.2% vs Sterling, +1.0% vs Chile, +0.7% vs Mexico, +0.6% vs Turkey, +0.4% vs Yen, +0.3% vs China, +0.1% vs Indonesia, and flat vs Euro. USD fell -1.3% vs South Africa, -1.2% vs Bitcoin, -0.6% vs Sweden, -0.4% vs Russia, -0.3% vs Canada, -0.3% vs India, and -0.1% vs Australia. Gold flat, Silver +2.0%, Oil +0.0%, Copper -2.8%, Iron Ore +0.6%, Corn +0.2%. 10yr Inflation Breakevens (EU -2bps at 2.42%, US +2bps at 2.37%, JP +5bps at 1.20%, and UK -1bp at 3.85%). 2yr Notes +8bps at 5.11% and 10yr Notes +10bps at 4.44%.
Argentina +38.6% priced in US dollars (+173.8% priced in pesos), Greece +30.3% priced in US dollars (+31% in euros), Hungary +28.6% in dollars (+26.4% in forint), NASDAQ +26.2% in dollars, Mexico +21% (+6.6%), Italy +19.9% (+20.5%), Ireland +19% (+19.6%), Poland +17.1% (+15.8%), Denmark +15.1% (+16%), Spain +14.9% (+15.5%), Brazil +13.4% (+5.7%), S&P 500 +12.5% (+12.5%), Germany +11.2% (+11.7%), MSCI World +10.6% in dollars, Taiwan +10.5% (+15.6%), France +10.4% (+11%), Euro Stoxx 50 +10.3% (+10.9%), Czech Republic +10.1% (+12%), Japan +9.7% (+24.2%), India +8.3% (+8.7%), Russia +8.2% (+41.5%), Korea +6.1% (+12.2%), Netherlands +5.4% (+6%), Chile +5.2% (+10.8%), Saudi Arabia +4.7% (+4.5%), UK +4.4% (+3.1%), Switzerland +4.4% (+2.7%), Colombia +3.7% (-15.2%), Indonesia +3.4% (+2.4%), Canada +2.5% (+2%), Russell +0.9%, Austria +0.5% (+1%), Turkey +0.5% (+45.9%), Norway +0.5% (+10%), Portugal 0% (+0.5%), Sweden -0.7% (+6%), Belgium -2.3% (-1.8%), Singapore -3.3% (-1.4%), UAE -3.5% (-3.5%), China -4.2% (+1.4%), Israel -4.4% (+3.8%), Australia -5% (+0.4%), Venezuela -6.6% (+86%), New Zealand -6.8% (-0.9%), South Africa -8.2% (+1.1%), Philippines -8.3% (-6.5%), Malaysia -8.9% (-3%), HK -8.9% (-8.7%), Finland -10.6% (-10.1%), Thailand -12.1% (-8.8%).
“Rates go up, financial conditions tighten, and the strong dollar makes it worse,” bellowed Biggie Too, Chief Global Strategist for one of Wall Street’s Too-Big-To-Fail affairs. “All these things make stocks nervous, and that’s right about where we are now,” barked Biggie. “But then at some point, we’ll get a piece of data that confirms the economy will like the first sign of a slowdown, and maybe the S&P bounces from a 4100 low or 4200 up to 4500 or 4600,” said Biggie. “But into that rally, you raise both hands and sell the living daylights out of it.”
“Because, in a recession with unemployment back up above 4%, particularly in an election year, equities will go down a long way,” said Biggie. “In that environment, tech is very vulnerable, because those companies are all about consumers spending money.” And Biggie broke into a groove. “Look at all the things that happen right before a recession. Oil goes up, and delinquencies go up and savings rates go up, unemployment rates go up,” he said. “All these things have happened; the inflection points have all passed.”
“An old bond guru would be buying bonds with two fists,” said Biggie. “But it hasn’t worked, at least not yet.” 2yr treasury yields finished the week +8bps at 5.15%. 10yr treasury yields finished the week +10bps at 4.44% with the S&P 500 falling 2.9%. “The first half of next year seems the right timing for the slowdown,” said Too. The surprise in the H1 2023 was that there was no recession. The H2 surprise was that rates will stay higher for longer. Next up is that the recession finally arrives. “Respect the lags. Monetary policy is not impotent.”
“When our share of global emissions is less than one per cent, how can it be right that British citizens are now being told to sacrifice even more than others?” asked UK leader Rishi Sunak. Sweden, a pioneer of net zero targets, said it will miss both its 2030 interim goal and 2045 target. Germany’s fragile governing coalition was almost broken this year by proposals to ban domestic boilers run on oil and gas. “It is unrealistic to completely phase out fossil fuel energy,” said Xie Zhenhua this week, special climate envoy representing China at COP28.
“What will happen with this government shutdown?” asked Liv. “Do you talk about it in class?” I asked. “If we shutdown, the military doesn’t get paid. Our non-military professors can’t come teach. And the civilians who work in our dining halls won’t show up,” she said. “It doesn’t matter for cadets, we’ll make do, but for the enlisted who live paycheck to paycheck, it really screws them -- what’s the point?” she asked. “I know it makes no sense Liv. Politics is barely functional, and we’re entering what will be a brutally destructive election season. But you’re part of something special. The military is different. It has integrity and leads by example.”
“It was humbling, sobering,” said my oldest. We had started the conversation talking about an incident in his final game of last year’s season. He’d lost his cool and got a non-releasable penalty after an opposing player blindsided his teammate. You can never lose your cool, and he doesn’t, yet he had. It is how we learn. Our conversation turned to Gettysburg. The Academy sends eighty team captains and company commanders to the Civil War battlefield for a leadership retreat the summer before senior year. “They would tell us that right here, on this exact spot, a graduate three years out of the Academy with his hundred men had run out of ammo. He ordered his troops to fasten their bayonets and charge down a hill to stab the rebels through the heart,” said my son. “In that case, it was a pivotal decision for the outcome of the overall battle. But we also walked through bad decisions that were made. Their details. Many were driven by poor communication, uncoordinated activity,” he said. “They lined us all up, had us walk across an open field. They said if you were born in December, stop walking. If you were born in November, stop. And so on. Less than 10% of us made it across that field.” That happened right there too, in 1863. “We were brought to Gettysburg to mentally prepare ourselves to live up to the expectations of what we signed up for, and what people expect from us. To prepare to make decisions as leaders that put people in harm’s way, to be put in a position to be killed. These are the things they signed up for, we signed up for,” he said. “It is critical to keep a level head, accept the consequences of your decisions. It was preparation for us, it is easy to forget. It made it all very real,” said Jackson. “I’m sure that’s why they recruit team captains. I’ve learned to make quick decisions under a lot of pressure. You train yourself to be in that zone where you can’t freeze up. And what we experienced in Gettysburg is different, but similar at the same time.”
Good luck out there,
Chief Investment Officer
One River Asset Management