Fed's fav tool - fire fighting
Abraham George Market Musings
The G7 meeting concluded on last Sunday without any earth shattering decisions. There was a time when their communique mattered so much to the currency markets. Leading economists and analysts interpreted every word to their understanding. But they still hold fort when it comes to consensus agreement on many matters that can effect humanity. So, what did we learn from the G7 communique that could impact markets?
The focus was mainly on the climate and equality movement. With the global economy coming out of one of the worst crises in history, the communique mentioned the economy only 17 times. It mentioned equality 22 times . And it mentioned either climate or green about 51 times. Additionally it mentioned 4 times very guarded and non-provocative comments on China.
So what does this all mean for the markets? Firstly, under Biden there is more coordination and agreement among global leaders on the social and environmental agenda. You can be assured of that. The focus is clear on a different type of future growth and not crisis response. So, there will be some economic pain in the name of future growth. New developments of fossil fuels will be punished at least in the western countries and OPEC countries will be held more accountable.
What does this all mean for interest rates and inflation? Actually according to legendary billionaire Paul Tudor Jones, one of the great global macro trades of all time, today’s Fed meeting will be the most important meeting for Fed chairman Jay Powell. The Fed employs more than 1000 PhD ‘s and they all collectively has been ignoring the market signals. So for an institution that is supposed to be so data dependent the Fed is anticipating an alternative outcome and pursuing policies based on that anticipation.
The Fed probably is one of the very few institutions in the world who never has to admit their mistakes to anyone. When it goes wrong they just do fire fighting.
The last time something similar happened was in 2018. Paul Tudor Jones drew parallel between this 2018 meeting and today’s Fed decision. For those who may not know or probably cannot recollect all the details , the Fed going into the Dec meeting had hiked rates three times that year. Before that since the 2016 elections they had systematically raised rates 7 times. This was all despite a slow economic recovery and tamed inflation.
Actually, stocks and oil prices were already in a sharp decline heading into that 2018 meeting, signalling fear in the markets that the Fed had already gone too far. The Fed underestimated or ignored the market signals and mechanically raised rates again. Stocks fell out of bed. By Christmas day the S&P 500 was down 18 % for the month . There was panic in Washington. Treasury Secretary Munuchin called out all major banks , the President’s working group on financial markets including the Fed to coordinate efforts to assure normal market operations. That was the turning point in stocks. The markets never looked back again.
Paul Tudor Jones is saying that we are at the opposite spectrum now. We have signals of complete madness and speculation in markets, runaway prices in some markets and crazy inflation but the Fed is still holding their line. With that we can expect no change in policy now. It will be like pouring gasoline on fire. Asset prices will continue to rise and this could be the last leg of this upmove. The ultimate outcome could turn out to be very painful. Very soon the Fed will chase prices higher and tighten more aggressively causing a possible crash. Hope they will find a better solution.
Abraham George is a seasoned investment manager with more than 40 years of experience in trading & investment and portfolio management spanning diverse environments like banks (HSBC, ADCB), sovereign wealth fund (ADIA), a royal family office and a hedge fund.