Recurring Nightmares

There was news Tuesday. Specifically, old news masquerading as new news. Or recurring themes. Or dreams. Or nightmares.

Jim Bullard was topical again. He was the first among Fed officials to publicly agitate for a 50bps rate hike (at one juncture, he went so far as to suggest the Fed resort to an inter-meeting move), so now that 50bps is priced in for May’s meeting (with another 50bps likely at the meeting after that), it was only natural that Jim up the ante. “These go to 11,” after all.

“More than 50bps is not my base case at this point,” he told an attentive Steve Liesman, during a virtual presentation for the Council on Foreign Relations after the bell on Monday. But base case or no, the Fed shouldn’t “rule it out,” he ventured.

Bullard is adamant about getting to neutral “expeditiously,” which he called “the word of the day” at the Fed. If the Committee were to move at the warp speed pace Bullard seems to prefer, “expeditiously” would likely end up garnering the same kind of infamy the Fed’s last “word of the day” now enjoys. If it were up to Jim, the Fed would get to neutral “as early as” Q3.

As a reminder that no one needs, the Fed (and markets) are currently under the (likely false) impression that the Committee will deliver the largest tightening impulse in a generation over the next 10 months without wreaking some kind (or many kinds) of havoc. The figure (below) includes 225bps of hikes and the 200bps move off the cycle lows in the shadow rate. It doesn’t include any estimate for the tightening impulse from forthcoming balance sheet rundown.

Bullard doesn’t see a recession. They never do. He noted that economic death-by-Fed isn’t likely just yet considering rate hikes have only just commenced. But remember, everything is faster this cycle. Recession has become consensus without becoming consensus — everyone seems resigned to it on Wall Street, even if only a few desks have made it their base case.

“One of the biggest problems is that finding a dissenting voice on the global procession to recession is getting increasingly rare,” SPI Asset Management’s Stephen Innes said. “The negativity about the economy is pervasive, and that alone can keep stock pickers sidelined.”

The curve has re-steepened dramatically (figure below), which makes the fleeting inversions seem more ominous. If this isn’t the recession eve re-steepening, then the inversions were flukes. All “false positives” aside, it’s dangerous to call the curve’s bluff.

10-year yields touched 2.91% on Tuesday, steepening the 2s10s to 42.9bps, the highest since March 1.

“The operative question [is] the extent [to which] Treasurys can selloff [and] we suspect the inflection point will arrive long before the data reveals the risk of an overtightening,” BMO’s Ian Lyngen and Ben Jeffery said. “What we’re struggling with is whether this occurs when the obvious bond-bearish inputs are simply exhausted or if investors need to see financial conditions spike tighter — either on a deeper correction in domestic equities or a credit market event.”

Or how about an FX market “event”? One consequence of the Fed’s ongoing hawkishness and the attendant selloff in US rates is a widening policy divergence with the BoJ. The yen story is really just that simple, which is why it’s not particularly interesting to obsess over. At this point, though, it feels like something might “snap,” as it were. The yen fell a thirteenth session (figure below), the longest streak in a half-century.

This story, like the US recession narrative, won’t die, precisely because they have the same origin: A determined, hawkish Fed which, arguably, wants to break something this time around, to the extent breaking something might somehow break inflation.

Japan, meanwhile, doesn’t have an inflation problem. Or at least not at the consumer price level. Note the emphasis. The distinction implied by the italics is a liability for domestic corporates, even if a weaker yen is ultimately a boon to the economy. Producer price inflation is running near 10% in Japan. Core consumer prices, by contrast, rose just 0.6% in February. As Pictet Asset Management’s Takatoshi Itoshima put it, “it will be difficult to hike prices because people have been accustomed to deflation — everything has been flat for such a long time.”

Officials, including Japan’s Finance Minister, Shunichi Suzuki, are now meekly attempting to intervene verbally, but it’s not obvious why that would be effective, especially considering the BoJ’s reluctance to countenance any kind of hawkish pivot that would put the bank more in line with its peers.

In any case, this isn’t going to end well. It never (ever) does. “This is not a small FX cross we’re talking about!”, Rabobank’s Michael Every remarked on Tuesday. He also took a stroll down memory lane. “The last time we saw a 75bps Fed hike was November 1994, the final blow in the Great Bond Massacre and the trigger for the Mexican Peso Crisis, which snowballed to the Asian Crisis of 1997-98 and the Russian Crisis of 1998,” he wrote.