Now that equities are behaving the way they should have since, oh, 2013 – volatile with a pronounced down bias – everyone is wondering how far the crazy will go before the Fed starts buying the S&P 500.
Short sellers, of course, want to know when to close out their at-long-last-profitable bets (see David Einhorn). Cautious investors (see Warren Buffett) with money on the sidelines want to know when to step in and buy. And fully invested optimists (the vast majority these days), are wondering if they should keep buying the dips till the cavalry arrives.
Credit Bubble Bulletin’s Doug Noland has been through at least three such cycles in his career as a short seller, and he’s parsed the testimony of new Fed chair Jerome Powell to reach a conclusion that the shorts will love and the longs will hate. Here’s an excerpt from his latest post:
The new Chairman is not in awe and, at least to commence his term, seems disinclined to pander to the markets. With greed waning, the change in tone was difficult for an uncomfortable Wall Street to ignore. Markets have grown too accustomed to central bank chiefs with an academic view of “efficient” markets – scholars wedded to doctrine that it’s the role of central banks to bolster and backstop securities markets. Powell knows better. As the old saying goes, “he knows where the bodies are buried.” Wall Street fancies the naïve. FT: “‘Powell Put’ Assumption Challenged as Fed Chief Shows Hand.”
I believe Powell recognizes the perils associated with backstopping a speculative marketplace. That doesn’t mean he won’t be compelled to do it. At some point, he’ll have little choice. But it likely means he will not act in haste. The Powell Fed will be much more cautious in delivering market assurances. He was skeptical of QE in the past, and I’ll assume he knows he was right. He will resort to additional QE slowly and cautiously. Importantly, I believe the new Chairman will want to pull the Fed back to traditional central banking. His preference would be to conclude the monetary experiment – end the follies of “whatever it takes.”
There is no single aggregate price level – there is no equilibrium interest rate. Importantly, the three epic experiments completely altered price dynamics throughout finance and real economies. Inflation is no longer too much money chasing too few goods. Too much “money” – in this age of momentous technological advancement, globalization and changes in the nature of economic output – no longer manifests primarily in problematic consumer price inflation.
In Powell’s testimony, there was mention of the long-accepted view that central banks should not be in the business of Credit allocation. Yet contemporary central bankers have gone so far as to conspicuously favor the securities markets. This is fundamental as to why financial stability risks now reign supreme. Central bankers should take a broad view of monetary stability and begin extricating themselves from the business of incentivizing financial flows and speculation into the markets. I know others disagree, but I believe the majority of central bankers would prefer to return back to traditional monetary management. After almost a decade, they’ve grown weary – of the experiment; rationalizing the experiment; justifying the experiment.
To sum up, Noland sees the Powell Fed eventually being forced to ramp up another round of experimental QE. But unlike his three predecessors Powell won’t intervene reflexively and enthusiastically. He’ll wait to see if market forces can work themselves out, and only when it’s clear that they can’t will he jump in.
That means a real bear market and some major bank failures before the bailouts are announced. Which in turn means the shorts can let their profits run for a while (it really is their turn after all) and the perma-longs will give back a big chunk of their easy gains of the past few years.