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When Doves Cry: Previewing A Critical Week For The Fed Pause Story

This is a big week.

Over the past two weeks, speculation has mounted that the Fed is set to back down or otherwise relent in the face of an ongoing equity selloff and a blowout in credit spreads.

The cracks are showing up everywhere you look and as we head into December, virtually no assets have managed to perform for investors in 2018.

The only exceptions to this year’s cross-asset malaise are USD cash (and that’s a function of Fed hikes driving up short-end yields) and leveraged loans, which are suddenly looking shaky as well amid shrill bubble warnings, concerns about the health of the overall credit market and generalized risk-off sentiment.

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Two Fridays ago, market participants seized on comments from Richard Clarida who, in an interview with CNBC, appeared to try and walk back Jerome Powell’s “long way from neutral” debacle which many point to as the catalyst for the October rout.

Interpretations of Clarida’s comments vary, but the contention that the Fed is considering a pause (or perhaps even a hard stop) in March or, at the latest, in June, was seemingly validated on Wednesday when MNI reported that “senior” policymakers are indeed starting to get cold feet about the rate path.

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If you ask markets, the Fed won’t even come close to delivering on the median projection next year, with just 28bps worth of tightening now priced.

ED

(Bloomberg)

It’s against that backdrop that we’ll get all manner of Fed speakers, including Powell himself in the week ahead. Powell will speak at The Economic Club Of New York on Wednesday. This will be the first time the market has heard from the Fed chief since November 14 when, while speaking at a Dallas Fed event, he made mention of slowing demand overseas and also alluded to the distinct possibility that the fading fiscal impulse could conspire with more hikes to weigh on the U.S. economy in the new year.

Of course he also reiterated that every meeting is live from now on. “Over time, folks will get used to the idea that we can and will move at any meeting”, he said.

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Clarida speaks as well, as do Evans, Williams, George and Bostic.

As if that wasn’t enough, we’ll get the November Fed minutes on Thursday. One assumes they will continue to suggest that the committee is pleased with how the economy is performing and should also paint a picture of a Fed that still harbors quite a bit of conviction in terms of the relative wisdom of further gradual hikes.

“The minutes to the November FOMC meeting should show a confident Fed that is comfortable gradually raising rates given their expectations for above trend growth and steady inflation over the next several quarters, but the focus will likely be on the discussion around the balance of risks to the outlook”, BofAML writes, on the way to noting the obvious, which is that “markets will be watching closely how much emphasis the Committee puts on the downside risks from the slowing global economy, softening housing market and fading fiscal stimulus.”

Folks will also be watching for any technical discussion on the IOER issue, something many market participants pretty clearly think the Fed needs to address in more detail in light of the ongoing EFFR drift.

IOER

(Bloomberg)

Meanwhile, 10-year yields have yet to respond meaningfully to the ongoing malaise across markets. Sure, we’re well off the early-October highs, but yields have stuck above 3%, which is perhaps surprising in light of the palpable fears across risk assets and considering specs look to have covered shorts at the most aggressive pace since April of 2017 in the week through November 13.

CoverMeFinal

(Bloomberg)

As far as the dollar is concerned, the consensus on Wall Street is that the greenback has peaked. That narrative permeates year-ahead FX outlooks, but somebody forget to tell specs, because the long position is still pretty crowded.

DollarLongVsGreenback

(Bloomberg)

For their part, Barclays isn’t necessarily buying all the talk of a Fed pause. “We believe markets are overreacting to the subtle shift in recent Fed rhetoric, hedging its bullish outlook, particularly in the context of the USD”, the bank wrote, in a note dated November 21. They add the following color:

The Fed has little tangible reason to pull back from its prospective tightening path now: continuing fiscal stimulus, rising aggregate household earnings, solid household balance sheets and savings rates, and still-accommodative financial conditions all point to sustained above-trend US growth, while inflation and financial stability risks lurk in the background. Recent notes of caution relate either to concern that foreign growth may drag more than expected on an otherwise robust US economy or uncertainty over the neutral level of Fed funds. The former merits caution but is second order for US growth, and the latter is nothing new.

There you go.

Still, it’s getting harder to ignore the signal from markets. Mercifully, rates vol. remains suppressed, but across almost all other assets, it’s a different story entirely.

And then there’s Donald Trump, who continues to implore the Fed to, at the very least, stop hiking. He reiterated that on Sunday morning in a tweet claiming that because oil prices have plunged, inflation shouldn’t be a concern (nobody tell him his stimulus and tariffs are the proximate cause of the Fed’s jitters about inflation).

In any event, equity investors are just hoping for anything to stop the bleeding, because as things stand now, the percentage of stocks trading above their 200-DMA is near the lowest since early 2016.

SPXBelow200

(Bloomberg)

Here’s a calendar from BofAML with the various Fed speakers boxed in red.

Schedule

 

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