To be perfectly honest with you, I have absolutely no idea why anybody cares about this, but apparently some folks do, so I’m going to highlight it, albeit briefly.
Goldman no longer thinks a March hike from the Fed is likely where that means Hatzius says “we think the probability of a move in March has now fallen to slightly below 50%.”
The note, a scant two pages long, hits all the same points everyone else has hit recently, with an emphasis on the fact (because that’s what it is), that the market appears to have gotten ahead of itself with regard to pricing in a recession.
The incoming data clearly tips a decelerating U.S. economy, but as Hatzius puts it “our CAI implies that growth has transitioned from exceptionally strong to merely strong.” So, not exactly doomsday.
The problem here – and we’ve been over this extensively – is that everyone seems to have lost track of the fact that they are hearing their own “voice” in what the bond market is “saying.” For one thing, the bond market (and thereby the curve) isn’t a thing that exists on its own. It is a man-made construct and thus by very definition, it cannot “say” anything of its own accord. But more importantly, last week’s action was the result of epic position unwinds, stop outs and other various capitulations, meaning that to the extent the curve does send “signals”, last week was more noise than signal.
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Unfortunately, this can (and ultimately will, if we’re not careful) become a self-fulfilling prophecy as ongoing equity turmoil and widening credit spreads tighten financial conditions which then in turn exert a drag on GDP.
“Rising investor anxiety has pushed up our FCI by about 80bp since early October [and] if the FCI remains constant at its current level, we estimate that tighter financial conditions would take ¾-1pp off real GDP growth over the next year”, Goldman writes, in the same cited note.
Thankfully – and ironically – bull flattening has the potential to help cushion some of the tightening in financial conditions (as long-end yields fall) and the short-end is pricing out the Fed which, if that is the “correct” interpretation of recent Fed speak, should mean that the dovish pivot will weigh on the dollar taking additional pressure off in terms of the tightening impulse.
In any event, everyone and their brother (and this now includes multiple Fed officials and a Wall Street Journal trial balloon which effectively confirmed what those Fed officials have been saying for weeks) now knows that the odds of quarterly hikes in 2019 are minuscule, which is why you see the market pricing in just ~10bps of tightening next year and increasingly pricing in a rate cut in 2020.
(Bloomberg)
Given all of that, the following from Goldman isn’t really that remarkable:
Despite the FCI tightening, recent Fed communications suggest that a hike in December is still very likely (in our view 90%). However, we think the probability of a move in March has now fallen to slightly below 50%. A decision to pause in March would also be consistent with the likelihood that tariff-related uncertainty will look particularly high around the end of the 90-day grace period on March 1. We emphasize that this is a close call because there are still good arguments for a March hike, including a continued positive fiscal impulse that should keep growth above trend in Q1 even with tighter financial conditions, as well as a funds rate that remains at the very bottom end of the committee’s range of neutral rate estimates even after a December hike. Moreover, our forecast of no hike assumes that the median number of 2019 hikes in the December dot plot moves down from 3 to 2; if the median instead stays at 3 hikes, the probability of March would increase again.
So, yeah, Hatzius is throwing in the towel on four hikes in 2019, but Goldman is still sticking with a quarterly hikes call after a March pause and as you can see from the above, even that pause call is contingent on the dots.
Again, there’s not a lot that’s notable here other than perhaps the fact that Goldman is throwing their support behind the narrative that the market (whether you look at equities or pricing for the Fed path) is now entirely disconnected from economic reality.
Of course Goldman has steadfastly refused to change their quarterly hikes assessment despite recent Fed rhetoric and market chaos, so this does represent something of a relent for the bank, but at this point, sticking with that 4 hikes call in 2019 was an entirely untenable position.
