The Credit Strategist

Share this post
Feckless
www.thecreditstrategist.com

Feckless

The Credit Strategist Blog

Michael Lewitt
Jul 28
11
1
Share this post
Feckless
www.thecreditstrategist.com

Stocks rallied 2-4% each of the last four times the Fed hiked interest rates only to fall in the following days and weeks as investors confronted higher capital costs, rising inflation and slower growth. Yesterday was no exception after feckless Fed Chair Jay Powell suggested the Fed would likely raise rates more slowly going forward. But monetary policy works with delays and the economy is just starting to feel the effects of one of the most aggressive hiking cycles in history (which should have started earlier than it did).

Investors celebrating the Fed’s moves by pouring money back into speculative stocks are acting precipitously. Stocks are still expensive, the Fed is still going to raise rates another 75-100 basis points (because it will take at least that much to deal with inflation), and earnings are disappointing. Morgan Stanley’s Chief Equity Strategist and Chief Investment Officer Mike Wilson deserves credit as a rare sell-side strategist warning investors that yesterday’s rally was a trap. It showed that speculation is still alive and investors still drink at the buy-the-dip trough which is filled with water formed from yellow snow.

The Credit Strategist is a reader-supported publication. To receive new posts and support my work, consider becoming a free or paid subscriber.

Mr. Powell added to a recent series of confessions of ignorance about markets yesterday when he said that he thought that a Federal Funds rate of 2.5% was close to a “neutral rate.” He must have blanked out on inflation still running in the (very) high single digits, or (to give him the benefit of the doubt that he doesn’t deserve) perhaps he thinks inflation is going to plunge though there is scant evidence that will happen. While there are signs that inflation is peaking (commodity prices are falling), the gap between a 2.5% Fed Funds and 9% inflation (even if it falls) is enormous. The Fed Funds rate is nowhere near neutral. It appears that just as the Fed (or at least its chairman) has a lot to learn about inflation and the money supply, it also has a lot to learn about the neutral rate. After fomenting (with help from Congress) the highest inflation in forty years, the Fed continues to demonstrate it has no real handle on the economy or key issues like inflation, employment, interest rates, and the money supply. The fact that few market participants seem to find this alarming and simply focus on the day-to-day performance of stocks and bonds and other financial assets is a sign of civilizational decline (one of many).

Mr. Powell also opined that we aren’t in a recession, demonstrating again that the leader of the most powerful central bank in the world is the last person you want to ask about the economy. This morning, predictably, we learned the economy suffered its second consecutive quarter of negative real growth and there is little reason to expect the third quarter to be any better. There is “detached from reality,” and then there is Jay Powell.

Markets are pricing in rate cuts a year from now after the Fed raises Fed Funds to 3.0-3.5%. Even though we are currently in recession and likely to stay there for a while (unless the Fed changes course before year end which is unlikely), the Fed should raise rates and leave them alone. Lowering them again quickly would be a colossal blunder even if we are still in recession. The economy has to learn to live with low but positive nominal rates. Even after raising them to 3.0-3.5%, real rates will still be deeply negative regardless of the phony numbers the government spits out to tell us otherwise. Negative real rates incentivize speculation rather than productive investment, excessive borrowing, and other types of noxious economic behavior that hurt long-term growth and prosperity.

If the Fed doesn’t start doing its job better, and investors don’t start recognizing the harm its policies are wreaking on the world, the future will be far more difficult than necessary. I see little sign that either of these things are going to happen so I will look elsewhere for things to be optimistic about when it comes to markets and economics.

I will be discussing these issues and their wider implications for the world in the August issue of The Credit Strategist coming next week.

The Credit Strategist is a reader-supported publication. To receive new posts and support my work, consider becoming a free or paid subscriber.

1
Share this post
Feckless
www.thecreditstrategist.com
1 Comment

Create your profile

0 subscriptions will be displayed on your profile (edit)

Skip for now

Only paid subscribers can comment on this post

Already a paid subscriber? Sign in

Check your email

For your security, we need to re-authenticate you.

Click the link we sent to , or click here to sign in.

X75
Jul 28

Yellen said we weren't in recession......

......so one of us is taking the "blue pill"

Expand full comment
ReplyCollapse
TopNewCommunity

No posts

Ready for more?

© 2022 Michael Lewitt
Privacy ∙ Terms ∙ Collection notice
Publish on Substack Get the app
Substack is the home for great writing