Gator Watching

Gator Watching

One of the most amusing (some folks wouldn’t use that adjective) things about scrolling through the Bloomberg news feed is that you can get the play-by-play, real-time account of Fedspeak influencing asset prices.

You could, of course, divine it for yourself simply by making a calendar of upcoming Fed speakers and staring at equity benchmarks, the dollar and yields as the soundbites roll in. But Bloomberg’s “MLIV” team takes an almost sportscaster-esque approach to it. The results are a testament to a lot of things, from the profound (e.g., how sensitive markets and the machines trading them are to key words) to the mundane (e.g., why, somewhat sadly, there’s still no real substitute for Bloomberg).

On Friday, I penned two of my three morning missives from my laptop, sitting in a cheap, Walmart lawn chair I set up next to a lagoon in a nearby nature preserve. There’s supposed to be an especially large alligator living there now, and I thought I might catch a glimpse of this (possibly mythological) fellow.

After getting too hot, I gave up. When I got back home, a quick scroll through what I may have missed revealed… well, nothing of substance, really, but Robert Kaplan did manage to unnerve some folks when he said, among other things, that “we’re now observing excesses and imbalances in markets.”

I don’t know where he could have gotten such an idea (figures, below, from Goldman).

Kaplan should know this, but if you’re a Fed official, it’s generally not advisable to speak frankly when you don’t have to. There’s no chance that a taper announcement is coming in June/July and it’ll probably be September before the Fed even starts to telegraph the commencement of serious discussions around trimming monthly bond-buying. And everyone is acutely aware that there are innumerable examples of speculative excess in the market.

Not everything is pure speculation, of course. The bubble in housing, for example, isn’t necessarily the product of speculation as much as it is a confluence of factors which together made for a perfect storm.

Given that a taper announcement is still months away and considering how glaringly obvious it is that some corners of various market are amenable to derisive “bubble” charges, it’s not clear why Kaplan felt the need to muse about tapering and bubbles. Nothing can possibly come of it but knee-jerk moves across assets that will invariably retrace. Better to parrot the party line, read from the script and maybe, if pressed, say something about how equity prices look stretched, but when viewed through the lens of bond yields, things aren’t actually alarming.

Instead, Kaplan — who’s variously indicated he’d be fine with rolling back stimulus as soon as it’s feasible, where “feasible” means as soon as his colleagues are prepared to have the discussion — told a virtual event that he’s “very attentive” to market excesses and “that’s why I do think at the earliest opportunity [it] will be appropriate for us to start talking about adjusting those purchases.”

“Those purchases” was, of course, a reference to monthly Treasury and MBS buying. He went further, noting that he’s in favor of rate hikes next year (as opposed to 2023 or, you know, never) and warned that “we’ve got real excesses in the housing market.”

Editorializing around Kaplan’s musings, Bloomberg’s Vincent Cignarella wrote that it wasn’t so much the notion that the taper discussion should start soon that piqued the market’s interest. “The comment that really gave traders the juice to turn positions was the Fed President saying he saw excesses and imbalances in financial markets [a remark which] seemed to be a wink and a nod to Powell’s comment at Wednesday’s press conference at which the Fed chair alluded to froth.”

On the other hand, Bloomberg’s Ye Xie reminded folks that Kaplan “is among those who penciled in a rate hike next year and he’s expressed concerns about risk-taking in financial markets” so his comments are “not surprising.”

These are your markets on morphine. Even if the dosage is being administered as usual, the mere suggestion that the doctors might be inclined to start discussing an “adjustment” is enough to make the patient dope-sick.

It’s unfortunate that the above is what counts as “news” these days. And that’s not an attempt to cast aspersions at reporters. This actually is news. It moved markets and whatever portion of the knee-jerk can be attributed to machines will almost invariably be retraced by humans once they (the humans) have had a chance to do the usual tasseography. In essence, then, all Kaplan did was create a trading opportunity. And all based on a few sentences uttered by one man on a Zoom call. Again: If you’re a Fed official, it’s generally not advisable to speak frankly when you don’t have to.

Although you can draw a parallel between Kaplan’s “excesses” and Powell’s “froth,” the former’s suggestion that the taper discussion should begin as soon as possible is manifestly at odds with the script the vaunted Fed Chair was reading from Wednesday. So, no reason to sell, I suppose.

And besides, Kaplan also said “it’s not yet the speculative situation that we had back in ‘07, ‘08 and ‘09.” The Fed hasn’t outdone itself yet. What’s the point in inflating a bubble if it’s not bigger than the last one?

That’s a joke. But it’s also deadly serious.

One feature of a fiat regime is a rolling boom-bust cycle that snowballs with each turn. Successive policy responses will need to grow in magnitude over time to keep pace with ever larger busts.

Eventually, the busts become so large that the policy responses required to combat them become caricatures of themselves that border on absurdity. Many would suggest that’s where we are now.

As Deutsche Bank’s Aleksandar Kocic once put it,

Spiraling leverage cannot continue indefinitely. At some point, the bubble becomes too big and cannot be subsumed by a bigger bubble — the damage of its burst would become irreparable. Therefore, when that moment comes the market faces a dilemma.


6 thoughts on “Gator Watching

  1. “One feature of a fiat regime is a rolling boom-bust cycle that snowballs with each turn.”

    Yes, but isn’t that preferable to the outstanding feature of hard-money regimes — irrationally exuberant booms characterized by soaring inequality followed by crushing depressions?

  2. Ah the housing bubble. Yes housing has gone up a lot lately, particularly single family housing outside the cities. Part of it is regression to the mean, downtowns up until 2 years ago were outperforming. And since the GFC of 07-09 much less single family housing was built when compared to population in prior years. And millenials delayed marriage, forming households, starting families and buying houses. Covid 19 has changed tastes for more space and have encouraged remote work. Well those facts have all come home to roost. But notice, those things have little to nothing to do with current Fed policy. Yes low interest rates help folks buy – but a perusal of the fact pattern suggests that low rates may be the least of it. Ask yourself, if low rates stimulate real estate purchases why have downtown apartments, shopping malls, and office building prices lagged or even gone down? It isn’t Fed policy! Its demographics, technology and covid…… Now Spacs, crypto and meme stocks- maybe you can point a finger at lax monetary policy there. But not housing.

  3. To get a good theoretical understanding of the market’s reaction to messages from the Fed, you might read Judith Borthwick’s classic, Comfort in the Danger Zone. The elevator versions says folks who are entitled (came by things easy, expect it) quickly swing from comfort to fear when the so-called punch bowl is threatened.

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