I suppose it depends on whether you view Jerome Powell’s Wednesday comments as a dovish relent or “merely” an attempt to correct a communications error, but you might well argue that today marked the return of the market as a co-author of the monetary policy script.
Under Powell, the market’s role in shaping the course of policy had been downgraded from “co-author” to something that approximated “consultant”, where the latter means the market’s input is appreciated and duly noted, but did not necessarily carry as much weight as it did under Yellen.
But the slump in equities and widening in credit spreads was becoming pretty hard to ignore and to the extent Powell was able to take a “see no evil, hear no evil, speak no Fed pause” approach, Donald Trump made that position increasingly untenable by shouting about the stock market to anyone who would listen.
But it wasn’t just financial markets and Trump’s “very large brain” (and even larger mouth) that stoked speculation of a dovish relent.
“The ‘Fed Pause’ thesis is not simply about weaker Equities, wider Credit and subdued Inflation Expectations or pressure from POTUS, but now too about the negative trajectory of US economic #’s into a more ‘data-dependent’ Fed”, Nomura’s Charlie McElligott wrote on Wednesday, before noting that “the Bloomberg Economic Surprise Index has now pivoted outright negative for the first time in ~14 months after recent meaningful misses in Industrial Production, NAHB Housing, U. Michigan Sentiment, Cont Claims, Init Claims, Durable Goods and Dallas Fed Manufacturing.”
That’s ironic in the context of Jerome Powell and the two-way communication loop with markets. Data dependence relegated the market to the backburner as long as the data continued to come in strong, but once the data started to roll over, it only magnified the market’s “voice”, thus helping to reinstate the market as a co-author of the script.
Charlie went on to reiterate what he said on Tuesday about key re-leveraging levels for CTAs which “would go all the way to ‘Max Long’ on a move above 2749 (an additional +$16.8B to buy).” Well, we almost got there on Wednesday as the S&P staged its largest one-day rally since March.
You also have to wonder whether McElligott’s “spastic”, “synthetic short gamma” dynamic was back in play on Wednesday given how things closed and sure enough, he mentioned that this morning.
“The local pain-trade remains Equities higher in-line my ongoing observation the past few weeks about the US Active Equities community being effectively a large source of ‘synthetic short gamma’ in the market in light of their recent Net- and Gross- exposure purges, which renders them ‘buyers higher’ on a gap move”, Charlie wrote. It’s probably not a stretch to think that was at work today and one expects he’ll document as much in tomorrow’s missive, assuming there is one.
Whatever happens from here, and whatever you want to say about the role Jerome Powell’s ill-fated “long way from neutral” comment played in precipitating the rout, McElligott wants you to remember that if you’re looking to assign blame, you might simply point to “max QT” as Fed balance sheet rundown accelerated, the ECB taper kicked up a notch and the BoJ persisted in the “stealth taper”…