Virtually no one that I’m aware of believes the Delta variant or associated weakness in US economic indicators will do much to alter the Fed’s generalized predisposition towards tightening policy.
Before anyone laughs, note that by “predisposition towards tightening policy” all I mean is that officials do intend to at least start the taper at some point and nobody has yet to suggest the onset will be permanently forestalled by adverse developments tied to “the strain,” as it were.
The Bloomberg editorial I cited in “Cost-Benefit Analysis In A Failing Economic System” summed up consensus pretty well:
Investors will be listening closely when Jerome Powell addresses the Jackson Hole conference this week. Powell won’t announce a plan to begin tapering the Fed’s bond-buying program — that will happen, at the earliest, after the central bank’s policymaking committee meets next month — but his remarks will be scoured for any fresh indication of his thinking.
That’s where we are. The figure (below, for anyone who missed it last week) is a hypothetical taper schedule with two simplified scenarios.
What’s notable, I think, is the extent to which expectations have shifted over the past several weeks. At first, there was no indication that the Delta variant would be a factor in the Fed’s timeline. By the time the July meeting rolled around, officials were tossing around the word “variant” quite a bit, according to the minutes from last month’s proceedings.
Fast forward a few weeks and the data is beginning to roll over, in part because of Delta, although as Morgan Stanley’s Mike Wilson correctly pointed out this week, some of what we’re seeing in terms of weaker consumption is likely just demand payback.
“There’s seemingly increased risk of a dovish Powell at Jackson Hole, as lowered Q3 GDP forecasts around the Street are reflecting a greater impact of the Delta variant on the outlook, as evidenced by weaker housing starts, retail sales and manufacturing surveys,” Nomura’s Charlie McElligott said Wednesday, adding that forward-looking indicators “are showing significant drops as well.” By forward-looking indicators he meant the University of Michigan survey and services PMIs. Charlie went on to note that rates and equities “are both pricing-in de minimis event-risk around Jackson Hole.
This is in part a function of Robert Kaplan’s slight dovish pivot last week, when he suggested the Fed should “be agile, open-minded [and] avoid being rigid” when it comes to tightening in the face of the variant.
You might simply suggest this is all very rational on everyone’s part. Risks from Delta have clearly risen since June. So, the Fed and markets are just adjusting expectations in line with the evolution of the variant. Then again, it’s not as if no one saw this coming. India offered a stark preview of how bad it might get way back in April. And the silliest part of it all is that despite extensive discussion of Delta in the July minutes, the very same account of last month’s FOMC meeting made it clear that a taper unveil was coming “this year,” a statement which compelled the very same Wall Street which is now looking for a dovish Powell, to move up their taper timeline.
This is all complicated immeasurably by the “policy mistake” narrative, which says that if the Fed does get too aggressive in the messaging with Delta still raging, yields might actually start to move lower again. “Ironically, if the Fed were to talk more aggressively about tapering at this week’s Jackson Hole meeting, we think it could lead to lower yields in the near term as the bond market may view that as a mistake as growth is decelerating and the consumer is fading,” Morgan’s Wilson remarked.
I’ve said this before, and I’ll say it again: Removing accommodation is a very delicate process, and you could pretty easily argue that even outwardly hawkish policymakers subconsciously want to avoid it. Because nobody likes pain.
Speaking of policymakers and pain, Dylan Grice (who some readers may recognize as a former colleague of Albert Edwards at SocGen), had a tantalizing take. “We find it noteworthy that around 60% of Powell’s net investable worth [was] in (primarily US) equities, a share which is likely higher today given the stellar performance of said equities since the [last] filing,” Grice wrote this week.
“Equally noteworthy is what is absent from the portfolio. Powell owns no Treasurys,” Grice went on to say, before noting that although “there’s an exposure to a more tax-efficient version – municipal bonds – if Powell’s portfolio is a variant on the classic 60-40, there’s a very clear underweighting of nominal assets relative to that framework. If actions speak more truthfully than words, then the chairman of the FOMC is telling everyone to protect themselves from CPI inflation.”
That last sentence made me laugh. Almost no one in this country can “protect themselves” from CPI inflation, even if a warning were shouted by Powell from a rooftop instead of buried in his personal holdings.