Bonds & Interest Rates
The Federal Reserve’s years-long campaign to sheepishly back away from its own policy forecasts continued in earnest last week when it officially reduced the four expected 2016 quarter point hikes, suggested back in December, to just two. Given the deteriorating economic outlook, I believe there can be little doubt that the Fed will soon complete the capitulation process and remove all expectations for additional hikes this year. Even before that happens, savvy observers should have already concluded that the Federal Reserve is stuck in the monetary mud just as firmly now as it has been since the dawn of the financial crisis back in 2008. Rather than actively voicing its retreat in either its March policy statement or in Chairwoman Janet Yellen’s press conference, the market-moving policy shift was buried in the minutia of the Fed’s “dot plot” information array, in which each voting committee member signals their assumptions of where interest rates will be in various points in the future. Those tea leaves needed to be read to reach the conclusion that policy just got significantly more dovish. But despite the Fed’s soft peddling, the policy shift made an immediate impact on markets, with the dollar getting hit by a variety of rival currencies and gold (and more significantly gold miners) climbing to multi-month highs.
But perhaps the greatest casualty of the announcement was the Fed’s own credibility, which is now being stretched to the limit. At Yellen’s press conference last Wednesday, CNBC reporter Steve Liesman, who has perhaps been one of the most reliable supporters of the Fed’s policies, seemed to indicate that even he had grown weary of the Fed’s prevarications, saying to Chairman Yellen: “Does the Fed have a credibility problem in the sense that it says it will do one thing under certain conditions, but doesn’t end up doing it? And…if the current conditions are not sufficient for the Fed to raise rates,…what would those conditions ever look like?”
Yellen’s response was measured and lengthy, but what it really boiled down to was, “Steve, why have you taken our prior forecasts at face value? We never actually offered firm commitments on anything. Nor did we specifically endorse the things that we seemed to have said. And just so you know, you should expect that the things we are saying now will ‘fully evolve’ over time as well.” Or in plain English: “Steve, don’t you know by now that we have no idea what we are talking about, that our forecasts are just guesses, and since we normally guess wrong, why should you expect greater accuracy now? If anything, it should be obvious that our guesses are biased in favor of stronger growth, as the intention is for those rosy forecasts to positively influence sentiment, thereby helping to obscure the problems that, for political reasons, we are hesitant to acknowledge”.
Talk is cheap, and the Fed buys it by the bushel. But when it comes time to actually do something, it is nowhere in sight. In voicing his frustration, Liesman pointed out that core inflation has gone up the past two months (in fact, it has already breached the Fed’s 2% target), that the jobs report was strong (in fact, the economy is creating 200,000 plus jobs per month), and that the GDP tracking forecast has returned to two percent. And while I have explained on many occasions why those data points are all misleading to the upside, Yellen has made no such qualifications. The growing chasm between what the Fed says it is going to do and what it is actually doing is getting increasingly hard for the mainstream to swallow. When it stops going down at all, a market shift of considerable proportions could begin in earnest.
One of the data points that Yellen likes to cling to most fiercely are the reports that show consumers are confident that the economy has improved and that it will continue to do so. But those reports, which I have always believed are poorly constructed, are completely at odds with what voters (who are also consumers) are actually saying at the polls. Presidential primary exit polls in state after state indicate that the economy has been the top issue on the minds of voters. Generally speaking, this should indicate that people are not overly optimistic about the economy. If they were, other issues, such as immigration, national security, the environment, and health care, would be cited as their top concern.
The big surprise this primary season has been the rise of Donald Trump among Republicans and Bernie Sanders among Democrats. Voters aren’t choosing Trump because they like his hair or Sanders because they like his glasses. Both are considered insurgents in their respective parties. They represent change and their popularity should be seen as a sign of deeply-seated economic uncertainty in voters rather than confidence. If confidence were high, candidates more closely aligned with the status quo should be on top.
According to both the Fed and its economic lapdogs on Wall Street, one of the few other bright spots in the economy is the fact that inflation is finally starting to ramp up noticeably. Last week it was revealed that the core Consumer Price Index (CPI) had risen 2.3% from the year earlier (Bureau of Labor Statistics), thereby eclipsing the Fed’s long-sought 2% target. The economists argue that rising prices will soon lead to rising wages. Yes, consumers are paying more for rent, insurance, food and healthcare, but the long-sought wage increases have yet to materialize. For obvious reasons, consumers tend to avoid celebration if their bills go up and their pay does not.
Higher prices may be the leading reason why consumers are not spending at the expected pace. Last month, economists cheered when January retail sales came in at up .2% for the month (up if you excluded autos and gasoline), according to Commerce Department data. In fact, the Atlanta Fed cited these numbers when boosting its annualized 1st quarter GDP forecast to 2.7% (since revised back down to 1.9%) (FRB Atlanta). But, last week we were told that the January retail sales number was revised way down to negative .4% from the positive .2%. Excluding autos and gasoline, the numbers went down from up .4% to down .1% in February. I don’t recall ever seeing larger retail sales revisions to the downside. But because the revisions were so large, the February numbers could be viewed as positive even though they were way below the pre-revision January numbers.
The slowing sales, in turn, are leading to a dangerous increase in business inventories as unsold goods accumulate on shelves. The inventory-to-sales ratio now stands at 1.4, the highest it has been since May 2009, when the nation was in the midst of the Great Recession. In fact, it has never been this high at times when the economy was not in recession. Similarly, data revisions released last week also indicate that we may ultimately post a full year 2015 current account deficit of $481 billion, the biggest number since the recession year of 2008. If interest rates go up, that deficit could grow significantly worse. The industrial production numbers are also on a downward spiral. Recent data show declines for four straight months, the first time since 1952 that this has occurred without the U.S. being in recession. But if we are already in recession, which I expect we are, then at least that statement will no longer be true.
All this adds up to a nearly inescapable trap for the Fed. The economy is weakening while inflation is strengthening. In the meantime, asset prices, which have become the bedrock of any remaining economic confidence, are extremely vulnerable to an interest rate increase.
As a result, we should expect continued jawboning and inaction from the Fed. All it can do is pray that the economy heats up so it can finally do what it has long promised. But if we keep scraping along the bottom like we have, or go further into the danger zone, look for the Fed to take away those remaining two promised hikes just as easily as it did the first two. The last thing the Fed can bear is for a recession that may be bubbling just under the surface to boil over into full view in the months heading into the election. If that occurs, we all may be seeing a great many press conferences from Mar-a-Lago. That is a development that I’m sure Janet Yellen wants to avoid at all costs.
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“Over the last 12 to 24 months, many sectors have had huge declines, and I see here, there are some opportunities.”
“[The U.S. dollar] is not a desirable currency,” said Faber, perplexed why the world has been so “enthusiastic” about the greenback. “I think the most desirable currency will be gold, silver, platinum and palladium. I still think the mining sector has embarked on a new bull market.” (Ed Note: Marc talks about precious metal stocks having declined 80-90% prior to the recent rally)
“I think that in Asia, the sentiment turned very bearish at the end of last year and especially concerning China and the Chinese economy. And as a result of that, Macau gaming companies got slaughtered,” Faber said. “And now they are, in my view, at a relatively attractive level. They started to move up: [Las Vegas] Sands China, Wynn China.”
“I don’t think it’s a bargain by any means, but I believe China despite its near-term problems that could be very substantial, will in the long run be a very rewarding investment destination.”
….go to Marc’s page to listen to the
By all accounts, George is living the American dream:
He’s had a successful career. Owns his own home free and clear. Married to his high school sweetheart and has two children.
However, George has always felt that something was off with the world.
A 19+ trillion dollar deficit. Record levels of debt. Stocks trading at obscene valuations. Constant printing of money by the Fed. Banks with cash-to-deposit ratios as low as 3%. NSA spying. 50+ million people on Food Stamps in the Land of the Free. “This isn’t the country I grew up in,” George realizes.
Eventually, George sees the writing on the wall.
He understands the trend. And he knows that it’s going to be his kids and his grandkids that will suffer the greatest consequences of all this profligacy.
George knows that he doesn’t have to be a victim.
He can take charge and take steps to put himself in a position of strength.
He decides to create his Plan B.
He moves a portion of his savings to a foreign bank account that’s 10 times more capitalized, 20 times more liquid and pays 50 times more interest than a traditional Western bank.
This way, if there’s ever a problem with the dollar or his bank in the US, his wealth will be protected.
He establishes a second residency in Latin America for him and his family, just in case. It’s also a nice place to spend some time with his family during vacations.
He also stores some gold overseas in one of the safest precious metal storage facilities in the world. This way, even if confidence in the dollar erodes and his neighbors lose purchasing power…he’ll have an asset that’s historically proven to hold its value.
When George talks with his friends about these things, they all say he’s crazy. His neighbors ridicule him for his overseas gold storage and for thinking banks in the US aren’t safe.
Then one rainy Thursday afternoon, the media reports that the Russian government has decided to dump its holdings of US Treasuries.
By Thursday evening, the Chinese follow suit.
Suddenly trillions of dollars come flooding back into the United States. The dollar sinks immediately. Global stock markets begin a massive selloff. Gold soars.
The President calls an immediate crisis meeting at the White House to try to figure out what to do. They have to prop up the Treasury market somehow.
Friday afternoon, after the close of business, the announcement comes.
The government declares that 70% of all retirement accounts in the United States will be converted into US government bonds.
They claim that government bonds are much ‘safer’, so this is for the good of the people. Of course, it’s the weekend now, so there’s nothing that people can do.
But this fails to calm the situation. By Monday morning, the dollar plummets again, and people run down to their local banks to start making withdrawals.
By 12pm on Monday afternoon, the federal government declares a “bank holiday”, shuttering all banks in the country.
That evening, they announce ‘temporary’ measures to freeze people’s accounts above $25,000.
Banks are to remain closed for the rest of the week, and National Guard forces are deployed across the country to protect bankers from the rioters that are already gathering in the streets.
By Tuesday morning, George decides that he doesn’t like where things are headed. So he and his family pack a suitcase and head down south for warmer weather to their beautiful property in Latin America.
George buys a plane ticket, easily, because he has access to cash through his foreign account. Plus, he already has a place to go.
As they’re pulling out of the driveway, his neighbors are in the street, looking at George with astonishment. “How the hell did he know that…?” they all wonder.
For a small minority of rational, thinking people, George’s story is a common history of things to come.
There are some people who see the writing on the wall, and who are willing to take action by diversifying abroad.
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Leaders faced with unrest, rising demands and dwindling coffers always debauch their currency as the politically expedient “solution.”Whatever you think of former Fed chair Alan Greenspan, he is one of the few public voices identifying runaway entitlement costs as a structural threat to the economy and nation. We can summarize Greenspan’s comments very succinctly: there is no free lunch. The more money that is siphoned off for entitlements, the less there is for investment needed to maintain productivity gains that are the foundation of future income generation:
They continue to ramp up big time. This phenomenon is not going away any time soon, not until it crests in 2020 or 2021.
In times of scarcity, the entire social fabric of society can give way.
Lack of trust in banks. In brokers. In local governments. In religion. In institutions. In law. In the police. In any kind of authority. Not your usual suspects, like food and water, or energy. I’m talking about the lack of trust that is now exploding to the surface all over the world.
Just think it all through. Have you ever seen such a swift collapse in trust and confidence in the world?
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