"Goldilocks is Back!" and the Bears take a back seat ..... again
ref :- "Markets are not braced for the one narrative that counts" , John Authers' "The Long View" in the FT Weekend A week ago it was easy, had you wanted to, to list some pretty sound reasons why the pull-back in equity markets and the rise in bond yields over the past month or so were justified . Surely they were no more than an accurate reflection of the increased risks to markets that had been able to ignore potential threats for so long ? A jump in January's US Average Hourly Earnings number released in early Feb suggested that FINALLY some embryonic upward inflationary pressure was about to work its way into the system. That in turn prompted increased consideration of what had been a minority view that the Fed might be forced to hike rates four times this year (not the suggested three), especially in the light of the potential for the fiscal stimulus of tax cuts to overheat an economy already trucking along pretty nicely. You might also have included the expectation that the ECB would start to make some more hawkish noises, or at least some less doveish ones, which seem to be more appropriate for the Eurozone's own healthy growth data. There was even speculation that given the more upbeat forecasts for its economy the Bank of Japan might consider some adjustment to its own, highly accommodative policies. After 20 years or so, that really would be something. And then of course you might have thrown in the very real fears of a calamitous global trade war initiated by President Trump's move to impose tariffs on imported steel and aluminium. Actually, it's still easy to make that list but the markets, which haven't needed much of an excuse to look on the bright side in recent times, have found some reasons of their own to back up a more bullish take on things. Almost imperceptibly, after it's 10% drop in February and recent trade-related ructions, the S&P 500 is back with 3 1/2 % of its record high. Just to take the issues raised above : February's US Employment data released on Friday showed that while non-farm payrolls rose 313,000, much more than expected, a higher Participation Rate meant that the key Average Hourly Earnings inched up to just +2.6% year-on-year -- it was expected to show 2.8% The ECB may have dropped some the text from their Thursday statement regarding their willingness to keep QE going beyond September, but boss Mario Draghi went out of his way at the subsequent press conference to underline their readiness to do so if required. President Trump has excluded Canada and Mexico from tariffs, and offered the chance of other exclusions to allies. (Yes, we know ..... the Canada / Mexico deal is conditional on them playing ball re : NAFTA, which is like holding a gun to their head, and the likelihood of everyone else wanting to jump through all of Mr Trump's hoops is remote ..... but that's not the story this morning.) At first glance the employment data suggests that the "Goldilocks" scenario that has supported markets throughout their stunning climb is in fact still alive and well. That is too say, a healthy growth-rate in the economy but not one that boils over into inflation and forces the Fed's hand into more aggressive rate tightening. Low unemployment with low inflation is music to the ears of investors. But Mr Authers suggests that there's another scenario that fits the current scenario rather better, the "Punch Bowl". This of course refers to a famous quote from the 1950s from Fed Chairman William McChesney Martin, who said it's the Fed's job to take away the punch bowl just as the party is getting going. Historically-speaking, by normal standards (if not current global ones) and after the emergency measures prompted by the financial crisis, Fed monetary policy is still extremely loose. Many would argue that such easy policy has been maintained for far too long. The Punch Bowl argument would have it that IN AN IDEAL WORLD both current Fed Chair Jay Powell and Janet Yellen before him would want to get on with tightening to reinstate a healthier rate structure. So the question is not whether the Fed NEEDS to raise rates (and inflationary pressure is not yet such that it does) , but rather the question is CAN the Fed raise rates ? And with jobs growth so strong, they obviously can -- a position supported by the rising participation rate that points to ever-tighter labour markets down the line. According to Mr Authers, that means that four rate rises this year are likely, and for all the competing noises from commentators, the MARKETS aren't prepared for it. That doesn't mean that four hikes automatically means some kind of meltdown, but to avoid nasty surprises it will require investors to get their head around the idea of a party-pooping Federal Reserve ..... and that's not something they're used to.