‘Plain English’ Goes Awry – Again

Anecdotally, the market reaction to the Fed statement and Jerome Powell’s post-meeting presser was even more schizophrenic than usual, and it all boils down to one word: “Transient”.

The initial (i.e., knee-jerk) reaction to the statement and IOER tweak (the third in a year) indicated markets were on board with the notion that the Fed had “succeeded” in pulling off the expected “dovish hold”. The inflation assessment was downgraded and the “patient” narrative was reiterated, tipping more of the same for the foreseeable future.

However, things took an abrupt turn during the press conference when Powell suggested that subdued inflation could be down to “transient or idiosyncratic” factors. “We don’t feel that the data is pushing us in either direction”, he said, effectively undercutting the notion that subdued inflation opens the door to rate cuts, despite the red-hot labor market and still-solid pace of growth.

Read more on the Fed meeting here and here

“Powell pushed back against the narrative that has been floating in the markets that the recent low inflation readings were sufficient to prompt the Fed to cut rates… making it very clear that he views the slowdown in underlying inflation to be largely due to transitory factors”, BofAML writes, adding the following color:

Specifically, he noted that a decline in portfolio management fees and apparel prices have contributed to the weak inflation reports over the past few months. Both are likely to prove transient — on portfolio management, the drop is tied to the decline in equities while the drop in apparel owes to a methodology change. When asked about the threshold for the Fed to cut rates, he reiterated that the Fed is comfortable with the current stance of policy- which is to be patient. If inflation ran “persistently” below 2%, the Fed would become concerned, but that is not the Fed’s baseline.

You hardly need the timestamps to spot the moment the statement hit (purple, below) and the moment Powell uttered the word “transient” on the way to saying the FOMC doesn’t see a strong case for a move either way (yellow).

This is pretty dramatic as far as these things go:

Last year, we gently suggested that holding “plain English” press conferences following every meeting was a bad idea – this is why. Curves were whipsawed, ending flatter (2s10s and 5s30s) after an initial bull-steepener and generally speaking, the moves in and around Powell’s comments are indicative of how one or two words can change the entire game in the blink of an eye.

“During the press conference, Powell repeated on several occasions that the committee had concluded that much of the unexpected softening in core inflation this year would likely prove transitory”, Barclays writes, in their own post-mortem. Here are some excerpts from what is perhaps the best quick summary out there on today’s proceedings (from Barclays):

He pointed to financial services inflation and apparel prices as injecting transitory downside momentum to prices and expressed confidence that inflation would return back toward 2.0% over time. We hold a similar view and the emphasis on transitory factors is consistent with our outlook of a Fed on hold throughout our forecast horizon (through the end of 2020). Hence, while the language changes regarding inflation in the statement took on a dovish tone, highlighting transitory factors as to why inflation is running below the target are likely to be taken by financial markets as hawkish given futures market pricing that skews toward policy rate cuts over rate hikes. 

The chair is likely referring to several sub-categories of financial services inflation, including pension funds and portfolio management and investment advice services. Both categories have a high correlation with changes in equity markets, albeit with some lag, and turnaround in equity markets in recent months likely points to a firming in these categories in the months ahead. The chair also related developments in apparel prices as similar to past behavior of wireless services pricing, where large price declines weighed on inflation for about a year, but ultimately proved transitory. Finally, the chair noted that the Dallas Fed trimmed mean inflation rate, which eliminates outliers in both directions, remains near 2.0% as evidence that recent inflation softness is not likely to persist.

“Powell has little incentive at this point to take anything off the table, a hike or a cut, because persistent inflationary pressures are slow to materialize”, Invesco’s Noelle Corum said, adding that the IOER cut “gave the market a false hope that the Fed was leaning dovish, and perhaps could act more quickly or aggressively in their run-off tapering of the balance sheet.”

Although this should have been self-evident, Powell’s “clarification” that the IOER move didn’t convey anything about policy also seems to have driven some of the reversal.

“Rates markets have been pricing for rate cuts and several Fed speakers have recently raised the possibility of ‘insurance cuts’, easing rates despite any imminent weakness in economic data”, Credit Suisse notes, before underscoring the general consensus assessment that Powell dispelled that notion on Wednesday. “[He] pushed against this idea in today’s press conference, reiterating that the committee is comfortable with the current policy path [and] we continue to expect the Fed to keep rates on hold this year”, the bank’s Jeremy Schwartz continued.

As far as the much-ballyhooed re-steepener goes, BMO’s Ian Lyngen says the “biggest takeaway” is that Powell’s remarks “offered a material challenge for the cyclical resteepener”. Lyngen also cautioned that we’ll have to see what the jobs report brings on Friday before drawing any definitive conclusions. On the standing repo facility, BMO calls it “far from imminent”, but puts the odds at “better than 50/50” that it will be unveiled by the end of next year. Powell told reporters that the committee would assess the idea at a future meeting.

Ultimately, the statement and the IOER adjustment were dovish, but whether he meant to or not, Powell changed the narrative completely during the press conference.

Although most of the commentary out on Wednesday evening suggests folks are giving Powell the benefit of the doubt when it comes to assuming his hawkish presser pivot was intentional (i.e., designed to perhaps quell some of the speculation about a rate cut at a time when the economic case for such a move is almost entirely absent), you could easily argue that this Fed chair still doesn’t quite appreciate just how sensitive the market is to turns of phrase.

Oh, and one more thing…

WHAT IS IOER??????? pic.twitter.com/lq8e03vWeY

— Heisenberg Report (@heisenbergrpt) May 1, 2019