Hours before Wednesday’s Fed decision and Powell presser, Nomura’s Charlie McElligott noted that “some believe it will be difficult for the Fed to not sound somewhat ‘hawkish’ relatively speaking and disappoint ‘doved-up’ market expectations.”
A few bullet points later, though, he flagged what he said was “VERY provocative, 11th hour talk through ‘consultant / macro advisory’ circles that the Fed could in fact state today that at a future meeting, they will lay out an actual timetable to end the balance-sheet runoff.”
While we didn’t get “an actual timetable”, we did get a “special statement” that specifically addressed the plan for the balance sheet and it did indeed include the most explicit (and official) acknowledgement yet that runoff could be adjusted depending on the circumstances. It also clearly opened the door to more QE if things were to suddenly take a turn for the disastrous.
The verdict from Wall Street was unanimous. Powell “capitulated”. The statement and the presser were overtly dovish to the point of taking almost everyone off guard. Barclays was particularly incredulous, and moved to slash their official Fed forecast just hours after the presser ended.
On Thursday, Nomura’s McElligott is back and as you might imagine, he’s got a lot to say about the Fed. Here is Charlie’s characteristically colloquial/entertaining take on Wednesday’s proceedings (italicized passages are obviously Fed quotes):
So here we are: The Fed (over the course of a month and half) goes laughably “all-in” on the slowdown story (because Equities prices now set policy I guess and not the other way around–but that’s none of my business), and markets respond with the old-school “QE trade” of old: Stocks, Bonds and Gold UP, US Dollar DOWN
Not only did the Fed nuke the prior “…further gradual increases” guidance, but they actually said the next policy move is as likely “down” as it is “up”–all while “giving-in” to the market on an earlier-end to the balance-sheet run-off than previously expected
Marble-mouths: “So we thought it was gonna work out, but I guess it didn’t because the market voted with its feet…”
“In 2017 we were in designing the normalization plan we were concerned at not having two active tools of policy. We learned during the taper tantrum in 2013 that would be confusing to markets. So what we did was we set up the normalization of the balance sheet in a way that was very transparent so that you could look and know really certainly as to treasuries pretty much the exact amounts and the timing in which we would be returning these assets to private hands. And we put that out there very publicly and in the hope it would be priced in and understood and that then we could put the balance sheet on the side and have interest rates be the active tool policy. So that went along that way very well.”
Oh wait–so the balance sheet IS suddenly once-again a policy tool, and forward guidance is NOT going away? Got it…:
“We hoped we could be in a situation in the future where we’d like to cut rates more than we can. And we hit the zero. We don’t think anything like that is in the cards now. There’s no reason to think it would be. But as we said in today’s release, if that happens, then we’ll use the full range of our tools. And that includes the balance sheet. But we would use it after using our conventional tools, which would be the interest rate and forward guidance about the interest rate.”
McElligott goes on to h/t the “consultant / macro advisory’ circles” mentioned on Wednesday. They “pretty much nailed the ‘mechanical / technical / plumbing (instead of market tantrums) as air-cover which would be used for balance-sheet adjustment’ story”, he writes.
Next, Charlie goes on to explain why the follow-through overnight was “mehh”. If you follow his daily missives, you already know where this is going. As noted on Wednesday afternoon, the Fed’s dovish pivot brought about some pretty dramatic bull steepening. You don’t really need the timestamps to pick out the moment when the decision came down.
For Charlie, any muted reaction/lackluster follow-through from yesterday is indicative of his “fear the steepening” thesis, outlined here on a number of occasions.
Of course if you’re going to go that route (i.e., “fear” the steepener) then you have to explain why stocks jumped (because that’s not “fear”). On that, McElligott alludes to folks being forced in (“nobody being ‘there’ with low net exposures”) before calling what the Fed did on Wednesday “de facto easing”. He then proceeds to reiterate the “fear the steepener” story as follows:
For my narrative’s purposes, however, “The Steepening” is confirmed by this “end of tightening cycle” pivot (5s30s to one-year highs) and my “Two Speed Year” thesis “Financial Conditions Tightening Tantrum” phase two is now in the process of “realizing”.
However and as stated here in the note ad nauseum for the past half-year (“Fear the Steepening”), the steepening of the yield curve at this juncture is 1) the precursor to the death of the cycle and 2) the signal that “we have tightened ourselves (through policy- and self-fulfilling anticipation-) into a slowdown / recession”
Then, Charlie gets “real” – where that means not denying the fact that at least in the near-term, the game has likely changed, especially to the extent that anyone who is underexposed might get forced in.
“Let’s be real though: for Powell to have so utterly ‘bent the knee’ to the stock market in such abysmal fashion ABSOLUTELY changes the calculus for investor psychology near-term–and as such, you have to AGAIN expect fundamental / active folks get ‘pulled-in’ over the next few weeks, with ‘don’t fight the Fed’ being the mantra against still very historically low Betas to Equities and Nets- / Grosses-“, he writes, on the way to delivering an update on his CTA model. According to McElligott, the Nasdaq model should pivot from”current ‘-71% Short’ to an outright ‘+100% Max Long’ signal by the close at current levels.”
Why is that the case? Well, it goes back to the 1-year window. “As the 1Y model flips with powerful negative days coming ‘out’ of the lookback, in conjunction with the overall Nasdaq return profile over the 1Y–all assumptions / current levels held constant, we see the 1Y Nasdaq model ‘flip to LONG’ and HOLDING as such over the following few weeks”, he writes.
So, there you go, sports fans. It probably doesn’t hurt that Facebook is having one of its best days ever.
Oh, and as for the S&P, Charlie is less than enthusiastic about a “competitor’s” model:
A competitor is saying that they see the 3m window for SPX “flipping long” if we trade through 2695 today–which is great and all, but as per our current model projections, the 3m window simply doesn’t hold enough weight to matter–again, it’s the 1Y window that has the outsized impact as previously stated.