Late Monday evening, while beating back mosquitoes and trying to avoid eye contact with a group of beach strollers loitering too close to the “Private Property, No Loitering” sign that’s supposed to make the neighborhood boardwalk seem unwelcoming to the wayward during tourist season, I begrudgingly recapped additional Fed speak, highlighting comments from John Williams and some perfunctory color from Jerome Powell’s prepared remarks to Congress.
“Additional” because comments from Williams (and Powell’s prepared statement) were set against remarks delivered earlier in the day by newly-christened “hawk” Jim Bullard and Robert Kaplan, who has a cord coming out of his back which, when pulled, makes him say “I favor a taper sooner rather than later.”
In a pseudo-lament, I noted that for everyday investors, keeping apprised of every utterance from Fed officials is tedious and mostly pointless, but it’s necessary right now because every turn of phrase counts.
Underscoring as much on Tuesday was Nomura’s Charlie McElligott, who traced the latest in market participants’ evolving view both on the June FOMC and on their own reaction to it.
“The buyside’s ‘policy error’ narrative surrounding the Fed’s perceived abandonment of FAIT has now seemingly evolved to a softer ‘communications error’ consensus, attributed to structurally conflicted and incoherent signals across dots, the SEP and anecdotal one-off commentary of tapering opinions,” he said. “As such, many in the market have now prepared for a moderation in tone and anticipated clarification of language from Fed speakers this week, saying that they have NOT renounced FAIT” and that, generally speaking, the Committee believes that as of this moment anyway, the US economy is still short of the “substantial further progress” threshold.
That latter part is obviously key. Arguably, the most important soundbite from this week’s first round of Fed speak was the following, from Williams: “From my perspective, we’re quite a ways off from achieving my interpretation of ‘substantial further progress.'”
That’s not the final word, but it made for a stark contrast with Bullard’s “I think we could make [the ‘substantial forward progress’] claim at any time.”
Those two views are incongruous, and Williams would likely win that battle all else equal.
As for Powell, McElligott described his prepared testimony as “far more balanced than last week’s language at the press conference, with more of a focus on downside risks” from labor shortfalls to COVID to the boilerplate “transitory” description of inflation.
It’s now pretty clear that the Fed made a multi-faceted communications mistake last week. Here are three problems:
- The inflation projections for this year suggested the Committee was very surprised at the magnitude of the upside “surprises” in the data from April and May. That’s not a good look. When there are as many distortions in play as there are right now, consensus estimates are even more meaningless than usual. As I’m fond of putting it, forecasting during the pandemic was a lot like forecasting in any other year: Just a drunken game of blindfolded darts. The difference in the COVID era is that everyone is drinking Everclear instead of Sam Adams. So, it’s not exactly “surprising,” let alone “shocking,” when you miss the board entirely and plant a dart “wide right” into the wall. The Fed presumably knows this, so while there was a very real sense in which they were just “marking to market” on their updated inflation projections for 2021, it still came across as something of an overreaction. Everyone (myself included) talks daily about “beats” and “misses,” but in reality, data doesn’t “beat” or “miss.” Rather, forecasters make erroneous projections. For the Fed to (kinda, sorta) consider those projections as a proxy for where inflation “should” have been in April and May on the way to upgrading their own full-year projections in knee-jerk fashion, elicited raised eyebrows.
- The dot plot shift suggested the Committee could be scared into undermining their stated policy objectives before they have a chance to be realized. Previously, it was all about how much “overheat” they’d countenance. Suddenly, it appeared we might be one month’s data away from seeing hikes brought forward into 2022, which would pretty much by definition mean that either tapering would need to be accelerated, at least one hike would overlap with the latter stages of the taper or, potentially, both.
- Powell was characteristically maladroit in the press conference. Finesse isn’t his thing. The shift in the dots needed to be explained, but calling them useless (which he did, almost literally) wasn’t the best way to go about that. It was another “plain English” moment — refreshingly candid, even funny, but lacking the kind of finesse you need when you’re trying to downplay the significance of something you and your colleagues voluntarily put out.
That’s my take. And I’d submit it’s a semblance of useful when it comes to understanding what’s transpired in the four sessions since the June FOMC.
“Previously, whereas markets believed in a world where the neutral rate for the US economy was expected to move higher on account of the Fed’s FAIT policy credibility and fiscal stimulus overlapping with the reopening tailwind, this seeming ‘quick pull’ from FAIT at the first signs of above-target realized inflation for 2021… kiboshed this expected future progress preemptively,” McElligott said Tuesday.
“The Fed dots ‘told’ us they’re going to raise rates earlier than expected, thus ‘capping’ forward economic ‘overshoot upside’ before we even get there,” Charlie added, noting that “it then makes sense that any ‘softening’ of this ‘FAIT abandonment’ view will see at least the optic of what looks to be a tactical resumption of ‘reflation’ trades.”
That’s were we were on Tuesday. Who knows where we’ll be by Friday.
