‘Capitulation’: What Wall Street Thinks Of Jerome Powell And The Fed

Well, the reviews are in and the verdict is unanimous.

Perhaps Barclays captures it best:

It is difficult to read the outcome of the January FOMC meeting as anything other than the Fed capitulating to recent market volatility. While we believe the Fed does have time to be patient before proceeding on any further policy rate hikes, the unwillingness to provide upward bias in its policy rate guidance seems at odds with the evolving outlook, which has not weakened, in our view, by nearly as much as Fed communication has changed in the span of a month.

Right. As noted earlier, Jerome Powell delivered an “aggressively dovish pause”, an outcome made all the more remarkable by the fact that the bar for what would count as “dovish” was set pretty high in light of January Fedspeak.

The sheer magnitude of the dovish surprise was enough to prompt Barclays to immediately change their official forecast for rates. The bank now expects just one more hike in 2019 (in September) with an additional hike in March of 2020.

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And that’s hardly the end of it. Barclays seems, for lack of a better word, incredulous. To wit, from the same Wednesday afternoon note:

Our concern is that the communications framework that has played an essential role in the conduct of monetary policy has been discarded, leaving us to wonder about the Chair’s policy framework and reaction function.

[…]

Our main concern is that hyper-data dependence means a reactive Fed, potentially whipsawed by market movements and absent clear direction. We see recent Fed actions as providing some confirming these fears, from statements as recently as October that potential growth may be rising and the economy was a long way from neutral to today’s decision whereby the Fed feels that it cannot provide any guidance on further policy rate hikes only one month after staying that it judged that “some further rate increases” will be consistent with sustaining the economic expansion. While many of the risks to the US outlook remain in place, there is little to suggest that the outlook has changed by as much as Fed communication says it has. We worry that the Fed has traded near-term support for financial markets and the economy for another round of volatility later this year if it is forced to lift rates higher, which remains more likely than not, in our view.

Again, this is all kinds of hilarious and it’s indicative of what we suggested might happen on any number of occasions last year while discussing Powell’s “plain English”. Those passages from Barclays are precisely what we meant earlier Wednesday when we said this:

Tone deaf Powell is now gone, replaced with a guy who has figured out how to turn “plain English” into “plain dovish”, which, in hindsight anyway, was predictable (if “plain English” is especially pernicious for risk assets when Powell is hawkish, you can expect it to be especially blunt on the bullish side when he’s dovish).

The title of Barclays’ note: “FOMC meeting: Capitulation”.

BofAML has a broadly similar take on Wednesday’s proceedings.

“Powell is no longer guiding the markets toward a hike but instead is showing a Fed who is considering staying on hold for an extended period of time”, the bank writes. And while BofAML doesn’t follow Barclays in immediately changing their Fed forecast, they’re certainly leaning in that direction. To wit, from their postmortem:

This makes our baseline forecast of 2 hikes this year less likely — we need to monitor data but given today’s comments from Powell, the threshold to hike twice this year has increased. It’s clear that recent market movements have led to a material shift in the Fed’s policy reaction function. Most importantly, we would need to see inflation pick up and financial conditions ease with a resolution on some of the global downside risks.

BofAML goes on to reiterate something else we noted earlier (and this was hardly some kind of profound divination on our part) – namely that the door is now open for rate cuts.

“At this point, the Fed is not looking to guide the markets about the direction or the timing of the next move”, the bank writes, adding that the Fed changed the language “in such a way that the next move could be either a hike or a cut.”

The title of BofAML’s piece: “A lot can change in 6 weeks”. The subsections are: “The hawks have left the building” and “Dove show”.

For their part, Goldman cut their probability-weighted forecast for the funds rate in 2019 from 1.1 net hikes to 0.7, on Wednesday afternoon. That is a remarkable change considering that it wasn’t all that long ago when they were clinging to a call for quarterly hikes this year.

“We viewed both the January statement and press conference as dovish and have reduced our subjective odds of a March hike to less than 5% (from 10% previously) and our Q2 hike probability to 25% (from 55% previously)”, the bank wrote, following the press conference.

Of course it’s possible that the loosening of financial conditions occasioned by the rally in stocks (assuming it proves to be sustainable and isn’t derailed by the trade talks or more DC gridlock) and dollar weakness ends up freeing up room for more hikes.

“In light of the Committee’s message, the risk to our call for two more rate hikes later this year and another one next year has shifted a bit further to the downside, though the substantial further lift to financial conditions resulting from today’s announcement somewhat limits this downside risk”, Deutsche Bank writes, in their own postmortem.

Deutsche thinks “the bar remains high” for an actual, material change in the pace of balance sheet rundown, but the bank’s take acknowledges the dovishness inherent in everything we heard from the Fed and Powell on Wednesday. Here’s what Deutsche says about the presser:

The press conference reiterated the downshift in the Fed’s tightening bias that was indicated in the statement. Powell noted several times that crosscurrents, or downside risks, including slower growth in China and Europe, trade tensions, Brexit risks, US government shutdown uncertainties, and the net tightening of financial conditions in recent months were enough to offset the still generally positive baseline outlook for the US economy and remove the need to raise rates further into the neutral range any time soon. Powell stressed that the current level of rates seems appropriate in light of this picture, even though it is at the bottom of the range of Committee estimates of neutral. He also took the opportunity to say that there remains significant uncertainty about just where neutral lies, and that more important indicators for monetary policy going forward will be how incoming macro data are performing and how the various crosscurrents are developing. In this way, he took the opportunity to hammer home the Fed’s data dependence.

And then there’s SocGen, whose recap is called: “FOMC: A Letter of Apology to Markets”

“The Fed surprised us, and the markets, by pivoting to an extremely dovish stance”, the bank’s Omair Sharif writes. Below is his summary of Wednesday’s events and as you’ll see, it betrays a bit of incredulity as well:

The statement explicitly indicated that the Fed would be “patient” and removed the reference to “some further gradual increases,” implicitly shifted the balance of risks to the downside, and it made the next rate move more symmetric by stating that the Committee would be patient as it determines “what future adjustments” may be appropriate. Just in case that was not a dovish enough message, the Fed also released an updated statement on balance sheet normalization, essentially signaling that the balance sheet runoff could end sooner than expected. Chairman Powell was also dovish in his press conference remarks. For now, we are sticking with our call for two 25bps rate hikes, one in June and one in September, but after today, the risk is clearly towards the Fed hiking only once this year. Frankly, we walked away from today’s meeting and press conference thinking that the onus is now on the data to get the Fed to hike even once this year.

Finally, we go to the only “strategist” who really matters. His take was characteristically short, but what it lacked in profundity it made up for in enthusiasm.