One of the key themes that smart people like Citi’s Hans Lorenzen and Deutsche Bank’s Aleksandar Kocic have been keen on emphasizing lately is the extent to which the rising tide that’s lifted all post-crisis boats is about to recede.
Simply put (here comes to pun), the central bank “put” is about the fade away.
Yes, DM central bankers bought something on the order of $1 trillion in assets in Q1 and the SNB is nothing more than a giant, state-run hedge fund, but if things go according to plan, we’ve seen “peak central banks.”
That being the case, investors would probably do well to consider that if they’re too late when it comes to understanding this they, like Wile E. Coyote, will run right off the cliff. And like Wile, that will be ok right up until they look down.
Well on Thursday, Bloomberg’s Richard Breslow is out with his latest and like Kocic and Lorenzen, he wonders if “traders who were late to the party in understanding that going along for the [central bank] ride was actually the best strategy, may be just as slow in realizing that the game is finally beginning to shift on them.”
Are you a chicken or an egg sort of investor? It matters in deciding whether fundamentals follow prices, or the other way around. The reality is that for most of us, price really is all that matters. We just don’t stick around long enough for grand narratives to play out. I think that’s why I preferred trading forwards rather than spot. But the opposite is true for long-term trending moves. It’s the narrative that must supersede in importance all the zigs and zags that characterize market behavior.
- So many traders have hated the post-financial crisis world because it was dominated by an exogenously imposed paradigm that seemed offensive. It was very hard to believe that central banks, who were seemingly making it all up as they went along, would nevertheless ceaselessly persevere for years
- But as late to the party as most traders were to understanding that going along for the ride was actually the best strategy, they may be just as slow in realizing that the game is finally beginning to shift on them. All trends eventually end. And it’s ironic that we fight them every step of the way and then finally accept them at the worst possible moment. Just when you’ve figured out that the gambler’s fallacy is your worst enemy, it decides to befriend you. Sort of like going back to a high-school reunion
- Now don’t think for a second that central banks won’t continue to be a major part of your life. We are condemned to them remaining the dominant player in markets. It’s just that their wishes and behaviors, other than where equity markets are concerned, will vary over time. And at any juncture, they may not all be on the same page
- What a world to contemplate that the Fed might be pursuing policies that otherwise would tighten financial conditions at the same time the SNB is salivating to averaging down on their stock portfolio. Go figure that one out
- Why haven’t longer duration Treasury yields responded more noticeably to the more hawkish Fed? Will the yield curve want to flatten as short rates continue to be lifted? The answer to the first question is the lasting search for yield in a world where there’s still a lot of quantitative easing going on. That’s going to diminish over time. It may be unpopular to say, but global growth has and is improving. Been superb for keeping U.S. FCI suppressed, but that shouldn’t be a sign that the market is fading the Fed. Also been very salutary on the currency war accusation front
- As to the latter, just wait for Fed balance sheet reduction. The yield curve will wake up. Didn’t Bill Dudley reiterate this morning that it probably will begin “sometime later this year or in 2018?” The Fed thinks they can manage the economy and the yield curve by alternately moving the levers of Fed funds and balance sheet policy. Prepare for lots of starts and fits
- There will be little room for less central bank micro- managing on the path to that chimera we call normalization
- It’s been a world where you would have been infinitely better off believing in the chicken rather than the egg. As we transition to the new regime, it’s likely better to be heavily invested in strategies that act more like the egg. But it’s going to take a good while for humans as well as models to get their heads around that