On Monday evening, as traders and shell-shocked investors were busy sorting through the smoldering wreckage of the worst Christmas Eve for markets in recorded history, we noted that there was at least one analyst who explicitly pegged 2,400 SPX as a possibility given his framework for understanding the Fed’s reaction function in a world where the central bank is transitioning from its post-crisis role as convexity supplier to its new role as convexity manager.
“The October repricing is consistent with the strike of the Fed put around 2400”, Deutsche Bank’s Aleksandar Kocic wrote on October 18, just a week after stocks crashed in an October 10 rout that presaged months of turmoil.
That was hardly the first time Kocic made the point. His analysis of the restriking of the Fed put dates to at least Q2. Simply put, if you think about the restriking of the Fed put as the normalization of equities’ traditional beta to the short rate, somewhere between 2,300 and 2,400 SPX seems about “right”. This was the chart Kocic presented on October 18:
Given the above, it’s interesting to see market participants giving up on the idea of a “Fed put” just as it looks to have finally moved into the money. David Tepper, for instance, told CNBC last week that “Powell basically told you the Fed put is dead”.
In the same vein, BNP is out with a note that finds the bank suggesting investors “swap the Fed’s ‘implicit put’ for an explicit equity put.”
The rationale is about as straightforward as it can be. Simply put (get it?), Q1 is littered with landmines. Here are the “key risks”, according to the bank.
None of that is “new”, per se, but it certainly does make for a rather intimidating pseudo-schedule of potential tape bombs. In fact, when you strip that list of the formal language and write it out colloquially, it’s almost laughably bad. Something like this:
- Another government shutdown tied to Trump’s demands for $5 billion in funding for a 2,000-mile-long spiked, steel border fence
- The potential for the President of the United States to be implicated in colluding with Russian spies to rig a U.S. election and also charged with trying to obstruct the investigation into that collusion
- A likely thumbs down from Parliament on a deal to pull the UK out of the EU
- The possibility that the United States will slap punishing tariffs on car imports from the rest of the world
- A debt ceiling showdown that will raise the specter of a technical default by the U.S.
- The expiration of a tentative trade truce with China
- The UK crashing out of the EU with no cushion
Again, that list is so laughably bad that had you been asleep for the past three years, you would be incredulous that it represents reality. The world is coming apart at the seams and not coincidentally, this can all be traced to the rise of populism in 2015.
Getting back to BNP’s note, the bank also warns on blackouts and the possibility that Q4 earnings will betray still further downgrades and guide downs. They also caution that Q1 GDP “has tended be seasonally weak.”
So what about the Fed put? Well, the bank basically echoes Tepper in writing its obituary and bidding it a fond R.I.P.
“The Fed has been reactive during market declines and that has helped contain periods of de-risking, compressing equity volatility [but] we are concerned that this regime is changing as we approach the end of the cycle”, BNP writes, adding that “in the previous two market cycles US equities peaked after the final rate hike [and] subsequently, the first rate cuts marked the start of very challenging periods for markets.”
Here are a couple of visuals that help to illustrate the bank’s points:
And here’s the VIX with balance sheet normalization just to drive home the point about QT conspiring with rate hikes to deliver a potent one-two punch:
“We are moving into a regime, where if there is still a Fed implicit put, it looks likely to be struck a lot lower than 2500 on the SPX”, BNP goes on to muse, before warning that “investors concerned about the growth outlook for the US economy, should consider swapping the Fed’s ‘implicit put’ for an explicit SPX equity put.”
Again, the irony in much of the recent commentary could end up being that everyone is calling the Fed put dead at the exact moment when it goes into the money.