Steen's Chronicle: Fed will deliver, too late and with little conviction - Strong US$ next macro move

 

Main Macro Themes:

 

·        Fed will either hike or set market up for hike in September

·        Be UNDER-WEIGHT US Fixed Income and credit. (My initial Under-weight US FI article)

·        Be LONG US$ vs. all currencies but mainly against basket

 

Trades:

 

·        Long DXY @ 94.40 stop 91.70 on daily close

·        Short Silver & Gold

·        Underweight 10YR and 30 YR US

 

 

 

The Brexit didn't not end the world despite policy makers and politicians dire warnings, and it's interesting to observe that the only time the world is 'going under' is when the voters, the supposedly real power of any democracy decides against the elite and establishment - the concept of free markets is constantly under attack from central banks implementing 'short term support to markets' to government bank rolling any future risk.

 

The last sentence is a link to the Economist's piece this weekend 'Comradely Capitalism' about the US mortgage market which is now almost entirely guaranteed by US government without any capital buffer. The 2008/09 crisis has simply moved mortgages of the books of the banks and into the hands of the US tax payer to the tune of a potential negative 2-3% GDP loss (similar size to the 2008/09 crisis)

 

http://www.economist.com/news/briefing/21705316-how-america-accidentally-nationalised-its-mortgage-market-comradely-capitalism

 

Basically, to help the world in 2008/09 the US government took of the US mortgage market but in the process ending the market based origination of debt leaving the bank unable to compete! Zero market, zero capitalism, but a lot of macro prudential policies.

 

The total size of the US mortgage exceeds the US stock market by far! Talk about a hidden risk embedded in a macro prudential framework.

 

Now we are on the subject of risk I find it astonishing how consensus is projecting markets. I remember firmly during Q4 of last year when I was talking about how a Fed hike cycle almost always leaves the US Dollar weaker twelve month later:

 

Steen's Chronicle: Primitive Economy Redux - November 2015

 

Furthermore I pointed out how Gold and EMG will be best performing assets - This wasn't my predictions but based on Allianz excellent report: 'Historical lessons from Federal Reserve rate hike cycle", which I have mentioned several times before. At the time I was looked at as having two heads and consensus was for a dramatically stronger US dollar in 2016.

 

 

My main reason for bringing up the weaker US Dollar was that I expected US growth to be below par and more so the more Fed delivered in terms of actual hikes, but the market saw and believed only in Fed's strong rhetoric which at the time promised, even guaranteed 4 hikes in 2016: Fed's Fischer says four rate hikes in 2016 'in the ballpark'

 

Now fast forward to today, the market firmly believes in a much weaker US Dollar at what I consider the low point in the US growth cycle, yes there is some political unrest with US election, but in the land of facts the US monetary policy is not only tighter but showing signs of early stress (which is wholly ignored by both credit and bond market for now….)

 

3 Month Libor is higher than 2 years US / the TED spread is sending out small stress signals, the excess of pool of non US Dollar is falling with lower oil prices and delinquencies is rising with the banks. Top this of with the leading indicator of the credit cycle: Senior Loan Officers Survey from the Fed, which shows tighther credit through the last three quarters.

 

 

TED spread

 

 

LIBOR 3 Month & 2 Year US Gov Yield

 

 

 

 

Defaults has doubled, and delinquencies is showing "some issue" incoming….

Source: Wolf Street - http://wolfstreet.com/2016/08/18/commercial-industrial-loan-delinquencies-jump-past-lehman-moment-level/

 

Meanwhile another leading credit cycle indicator – Senior Loan Officers Survey from Fed clearly indicates banks are less willing to lend – which leads rates higher……

 

 

Yes, unlike in early 2016 when Fed could not deliver hikes, the market is now delivering hikes into a stock market trading at all times high, while housing prices is finally back at its peak - it all makes sense except for the markets expectation for a weaker US Dollar.

 

The key event this summer is Jackson Hole, where Chair Yellen is expected to announce her next step - Fed communication is almost 100% waste of time as the only rule which makes you money in central watching is to ignore what they say, and act on what they do do - which most often is nothing.

 

However, there is strong case for September hike or at least pre-announcing an October hike. First argument being the credit conditions already reflects this, second being getting some room for the drop in rates which have to come by early 2017 plus getting out before US election in November and finally, the Fed although not to be trusted is clearly determined even in their communication to continue its path higher in rates, even they must know talking about it no longer will do the job, only action will talk and create a much needed increase in their credibility which is mighty close to zero with the market.

                                                                                                                                                              

The most important aspect however remains the most primitive argument - the fact the stock market trades at all time high is a temptation they can not ignore.

 

In recent history interest rate cuts has always been preceded by intermediate lows in stock markets, now it's likely Fed will create reciprocity by hiking rates on new highs. It fits their primitive world of economics, where policies are measured not on how the do for the economy but how they do for Wall Street and the stock markets.

 

The lack of direction and understanding was for all to see in this weekend's speech by Vice-Chairman Fischer at the Aspen Insitute: https://www.federalreserve.gov/newsevents/speech/fischer20160821a.htm

 

This is comment on the internal email:

 

"Reading full speech and....Fischer prepares for hike w inventories being the excuse but his productivity part is the most interesting from economics perspective as he simply thinks lack of productivity is mainly because we don't measure it correctly – the closing part of his speech supporting more fiscal policy is a conclusion of pretend and extend from 'tired central bank' who desperately holds on to his and fed believe that it understands mechanics of economy which they clearly don't......."

 

Harsh, you may say, but Fed has pretty much given up understanding the economy in a situation where they have been to "easy" for too long with nothing to show for it, except the stock market valuation and all its unintended consequences – risking a bit of that "success" is the next step for Fed and hence my two biggest calls remains:

 

Underweight US Fixed income (and credit) – and LONG US$ through this cycle where market is lacking behind in its adjustment to a Fed desperate to normalize……

 

Med venlig hilsen  |  Best regards
Steen Jakobsen  |  Chief Investment Officer

 

Saxo Bank A/S  |  Philip Heymans Allé 15  |  DK-2900 Hellerup
Phone: +45 39 77 40 00  |  Direct: +45 39 77 62 23  |  Mobile: +45 51 54 50 00

 

Research: http://www.tradingfloor.com/traders/steen-jakobsen

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