Powell Presser Pause
December 12, 2021 -Weekly Comment
At the September FOMC, the Projections for the PCE Deflator went from 3.4% to 4.2% and for Core from 3.0 to 3.7% for 2021. Just like always, the Fed was playing catch-up to the actual data: On August 27, the data were released with PCE deflator 4.2 and Core 3.6. However, even with a large realized jump, the estimates for 2022 were only grudgingly moved up, by 0.1 for PCE to 2.2% and up 0.2 in Core to 2.3%.
On November 24, the PCE Deflator was released at 5.0% and Core at 4.1%. What does that mean? It means that the Fed’s estimates for that data will also be raised at the FOMC this week. It also means that the estimates for inflation in 2022 will have to be moved up, because we’re almost IN 2022. The dots for the end of 2022 at the September meeting showed 9 expecting UNCHANGED rates through the year, 6 had moved to one hike 0.25% to 0.50%, and 3 expected two hikes, 0.5 to 0.75%. The market is already pricing nearly three hikes for the end of 2022. January 2023 Fed Funds are 99.25 or 75 bps, against a current Fed Effective of 8 bps, so the rate on FFF3 is 67 higher. I think the majority of dots will now indicate two hikes for 2022.
Obviously, the dots are going up, because the market has already priced the new reality. The Fed mostly just follows. They see the data and belatedly move. So, the dots are going higher, inflation estimates are going higher. Great, we already have seen that. But here’s what is a little bit different. On November 30, Powell came out more hawkishly and said the Fed will retire transitory and will DISCUSS accelerating the taper. But what happened after that?
Here are a few select prices from 11/29, the day before Powell’s hawkish pronouncements and from Thursday, the day before Friday’s monster CPI number of 6.8%.
| 29-Nov | 9-Dec | bp chg – yld | |
| EDM3 | 9871.0 | 9854.0 | 17.0 |
| EDM5 | 9819.0 | 9826.5 | -7.5 |
| GT10 | 1.501 | 1.501 | 0.0 |
| GT30 | 1.856 | 1.877 | 2.1 |
Nearer contracts went up in yield, while longer contracts barely moved. The spread between EDM’23 and EDM’25 declined by nearly ¼% to just 27.5 bps. The market is projecting that the Fed will essentially be done with tightening by the end of 2023, and that a relatively small increase in the FF target to around 1.5-1.75% will be enough to slow both inflation and economic growth. EDZ’23 closed Friday at 9828.0 or 1.72%. Every contract in the three year period from EDZ’23 to EDZ’26 is within a six bp range from 9828 to 9822.
I am of the opinion that inflation is becoming more entrenched. However, I also believe that the surge we’ve seen in many prices will begin to decelerate. The fiscal impulse will not be as strong. Prices will rise, but less rapidly (still well above the 2% target). By being too hawkish at the FOMC meeting, the Fed risks much broader curve inversion, which forecasts significantly weaker economic activity. Even if the taper is accelerated, which I don’t believe is a done deal, Powell will try to tamp down on aggressive rate hike expectations now being made by Goldman, William Dudley, etc. As I mentioned last week, Powell does not want to repeat the equity market stress of Q4 2018 by aggressively hiking into a slowdown.
On Friday, the Fed released the Z.1 report. In terms of debt growth in Q3 of the three major categories, Households (HH), Business and Government, only one had a negative sign: The Federal Gov’t at -1.32%. State and Local Gov’t were +1.7% but the total outstanding is only 13% as large as Federal. HH growth was a healthy +6.16% and Corporate +6.02% for Q3. The conclusion might be, “Great, we’re making the hand-off from the public sector to the private sector, with a probability of much more balanced organic growth.” The question is, how accurate is that assessment?
We’re all familiar by now with the pump-and-dump Redditt strategies. My hypothesis is that these ploys were in large measure abetted by government cash handouts. I googled the top 10 meme stocks of 2021 and a yahoo article named the ones in the below table. I added a couple of earlier ones: Blackberry, Bed Bath Beyond, and even Silver, as they were publicized raids made early in the year.
| STOCK | Month of High | Approx from high |
| GME | Feb | -60% |
| AMC | June | -50% |
| SAVA | June | -68% |
| HUT | Nov | -45% |
| UPST | Oct | -60% |
| LCID | Nov | -30% |
| MMAT | June | -80% |
| ASAN | Nov | -50% |
| BGFV | Nov | -55% |
| RVLV | Nov | -28% |
| BB | Feb | -64% |
| BBBY | Feb | -66% |
| SLV | Feb | -22% |
Clearly there are companies that experience a positive catalyst that rise and continue to rally. But if a part of the thesis is that the ‘catalyst’ for above stocks was gov’t cash handouts, and that these stocks took a tumble when those flows dried up, then the idea can likely be applied to general economic conditions. Has the hand-off to the private sector been seamless? Will the wage-price spiral become entrenched without government support? As BofA notes, 64% of the 23% ytd gain in the Nasdaq Composite comes down to just five stocks, MSFT, GOOGL, AAPL, NVDA, TSLA.
Powell sees the flattening and has to balance that against calls to strike against inflation with rapid increases in the FF target. However, he might be better served by signaling slower rate hikes than are currently expected, and let a steeper curve do some of the heavy lifting for him.
| 12/3/2021 | 12/10/2021 | chg | ||
| UST 2Y | 58.7 | 66.0 | 7.3 | |
| UST 5Y | 112.2 | 125.2 | 13.0 | |
| UST 10Y | 134.7 | 148.5 | 13.8 | |
| UST 30Y | 167.5 | 188.2 | 20.7 | |
| GERM 2Y | -74.3 | -69.2 | 5.1 | |
| GERM 10Y | -38.3 | -34.6 | 3.7 | |
| JPN 30Y | 66.3 | 66.7 | 0.4 | |
| CHINA 10Y | 290.3 | 287.6 | -2.7 | |
| EURO$ H2/H3 | 88.0 | 89.5 | 1.5 | |
| EURO$ H3/H4 | 43.0 | 50.0 | 7.0 | |
| EURO$ H4/H5 | -2.0 | 4.5 | 6.5 | |
| EUR | 113.14 | 113.18 | 0.04 | |
| CRUDE (active) | 66.26 | 71.67 | 5.41 | |
| SPX | 4538.43 | 4712.02 | 173.59 | 3.8% |
| VIX | 30.67 | 18.69 | -11.98 | |
