“Despite most of Street being at December, I still think there’s a real chance for the Fed to ‘firm’ the message in September after their updated SEP, which means they could then go with a surprise November announcement,” Nomura’s Charlie McElligott said Tuesday.
He was, of course, talking about the timeline on a taper unveil. Obviously, an announcement of the Fed’s intention to pare monthly asset purchases is distinct from the actual commencement of the taper. That goes without saying for even casual market observers, but to the layperson, it’s possible it sometimes gets lost in the endless hand-wringing.
Bravo to Charlie for his assessment, by the way. For (at least) two months, it’s been apparent to me that September was far more likely than December when it comes to a formal (or semi-formal) Fed taper announcement. What’s “apparent” to me doesn’t always pan out, but at least as far as Fed tasseography goes, I’m hardly the only person in the world who gets it “wrong” occasionally. Indeed, the Fed itself isn’t very good at predicting what it’s going to do and when.
With so many officials now nodding in the direction not just of “progress” but of the kind of progress that meets the taper threshold (“substantial further”), the logical timeline would find Jerome Powell laying the groundwork at Jackson Hole and then a “firmer” (to employ McElligott’s characterization) message delivered alongside the new dots next month.
At that point, the table would be set for the onset of the taper no later than early 2022. “Firming up” the message next month would allow the Fed to claim they’re responding appropriately to the incoming data (pacifying an ostensibly “concerned” King Joe Manchin!) while preserving some optionality to tweak the messaging or otherwise adjust the timeline in November and December, contingent on the trajectory of the economy and the evolution of Delta (and you can take “evolution” figuratively and literally there).
For now, the Fed can “downplay Delta’s impact of the US economic recovery, firming labor data in the back pocket,” McElligott went on to say Tuesday, before recapping the bank’s “quadrant” work on economic cycles. Regular readers might recall that Charlie predicted outperformance (or, at the least, a moderation of egregious underperformance) for bond proxies and other equities expressions which suffered during Q4 2020 and Q1 2021 (i.e., during the “vroom, vroom”, “Recovery” phase, as he put it) as the economy transitioned to “Expansion” (see the figures, below).
The defining feature of the post-“vroom, vroom” quarters was an inexorable bond rally that took long-end US yields more than 50bps lower from Q1’s mini-tantrum highs, flattening the curve in the process and reversing underperformance in secular growth shares while wiping out (in some cases completely) YTD outperformance in various reflation expressions.
That’s the “peak growth” pivot, and if you want a simple visualization, I’d suggest the figure (below) is as helpful as any. The chart header (and subheading) suggest we may have now overshot in the “other” direction — that is, after a reflation overshoot in Q1, we may have now fallen too hard for the “growth scare”/”policy mistake” narrative on the way to unwinding reopening trades.
So, what happens now? What’s next now that the market saw “the maturation of the cycle and [began] to pull-forward the eventual implications of a data overshoot,” as Charlie put it.
Well, as it turns out, the transition from “Expansion” to “Slowdown” (in Nomura’s quadrant phase work) “actually see[s] some of the economic- / yield- sensitive factors begin to work again after they most likely have bombed out in the prior phase,” McElligott said Tuesday, adding that “the bond-proxy factors already smelled the slowdown and got their outperformance done” and are “thus subject to underperform in the ‘Slowdown’ stage.”
He noted that “might seem counterintuitive,” but it’s just another manifestation of markets pulling forward expected future outcomes and then being forced, in somewhat recursive fashion, to reverse course again once “the future is now,” so to speak.
Is that “efficient”? I don’t know anymore. I really don’t.
Efficiently trapping the naive into losing money.
The Fed is not driving the car here. They are price takers. Tell me how the virus and fiscal policy develops and I will tell you what the FOMC will do. Right now all the folks pushing taper are foolish in my view. What is the hurry? The Fed would be wise to let the markets know that a taper is possible in the fall but is contingent on events. Commodity prices are not sounding the alarm- although wage rates at the low end of the pay scale are going up nicely. It is far better for the FOMC to be a little late, than too early and have to do a U turn on policy.
I may be wrong but I agree.