Good Morning on this best day of the week, Wednesday,
Today is Fed day and in about an hour we will hear what Chairman Powell and company are willing to share about their future plans to create growth (or maximum employment and 2% inflation as the mandate says). Pound for pound, nothing has more power to move the bond market than Federal Reserve Announcements. The Fed doesn’t like to surprise the market–especially at times of elevated economic fragility and risk. They like to reassure markets and promote the best amount of liquidity and activity as possible. Although their self-imposed guidelines prohibit Fed members from offering public comments in the week leading up to a policy announcement, they were out in force before that. Nearly all of them sang the same tune.
In general, the average Fed member has expressed several key concepts repeatedly:
- They could buy Treasuries and MBS more or less indefinitely. So don’t worry about that well running dry.
- They could keep adding accommodation in various forms until inflation was clearly responding with a move well over 2%
- They won’t be touching their 0-0.25% Fed Funds Rate Range for a long time.
- They’re increasingly worried about a double dip recession, but the severity of it hinges on how we manage Covid and how the US government provides stimulus
- They view fiscal stimulus as an essential counterpart to their own monetary stimulus
- They’re just as uncertain about the fate of the economy over the medium term as anyone else.
All of the above adds up to a fairly predictable Fed announcement today–or at least it seems to. In short, rates aren’t even on the table for discussion. Bond buying is humming along with no reason to be adjusted. Apart from that, they may reiterate the importance of fiscal stimulus, but that’s the sort of comment that would be part of the press conference with Powell as opposed to the official text of the policy statement. Despite this being very predictable, there will be a volatile reaction to the Fed announcement and subsequent Q&A, there must be. Traders are busier (making money) on volatility. Rates could go either way in the short term but where we are right now is a pretty big line in the sand. The 10-yr has not been able to break below .58% in the last 20 attempts. Could it today? Yes of course, but it could also rebound to .70. Tough call to make on mortgage bonds/rates as well. I would expect bond prices to improve (lower rates), but even if there is an improvement, I don’t think much of it will end up in rate sheets. It is unfortunate the Fed will have to maintain such a defensive stance. If the economy were growing, I assure you, rates would not be zero (or if inflation adjusted, negative). Equity markets continue to chug along which is also a product of the weakened US dollar.
If the Fed meeting was not enough for this week, we will see the advance reading of Q2 GDP tomorrow. Markets expect -35. I would think it will be less. If I am wrong, markets will likely take it with a grain of salt, if I am not wrong, I think bonds sell off.
A couple of economic notes that the Fed is surely aware of:
The default rate on private debt rose to 8.1% in the second quarter. That’s up from a 5.9% default rate for the previous quarter.
One of the metrics I look at is consumer confident/equity markets. They should and WILL be correlated. The question is which data point moves towards the other? I don’t see consumer confidence increasing in the near term with greater unemployment and more business failures… the more likely outcome is stocks fade. Take note that the adjusted/equivalent level on the S&P to meet where confidence is would be 2000, that would be a pullback of greater than 33% from where we are today.
And last, the below is a crappy graph, but something we should be aware of and prepared for. I do not know if it translates into mortgage defaults as well as with mortgages, we do have forbearance options, but I would think there will be some crossover in the next year.
Please be safe and remain healthy, make today great!