Amateurs

May 11, 2022

–CPI today expected 8.1% yoy from 8.5 last.  Core expected 6.0 from 6.5.  Curve bull flattened yesterday in front of today’s 10y auction with the 10y yield down 9 bps to 2.989% and 2s up 1 bp to 2.625%, as various Fed comments indicate comfort with the idea of at least two more consecutive 50 bp hikes, and an open door to 75.  EDM3 rallied 3 to 9660.0 (still the lowest priced contract on the strip). 

–May midcurve options expire Friday.  0EK 9662.5 straddle with just three days until expiration is 16.5.  With EDM3 settling 16.5, breakevens are 9646 to 9679, a huge range, and an indication of how skittish the market is.  It wasn’t too long ago that the atm expiring straddle on the first red would have been around 5.0.  There have been several articles recently about diminished liquidity, which isn’t at all surprising given straddle levels.  In fact, long dated red and green straddles tacked on 2-3.5 bps yesterday in what was a fairly quiet session. Fed officials can’t seem to read from the same script even after the Chairman laid out the outline.  And then they are scratching their heads over less than optimal market conditions.  Another CONUNDRUM.  

–Not sure where I clipped this, probably from BBG:

Nursing losses in 2022 that are worse than the rest of the market’s, amateur investors who jumped in when the lockdown began have now given back all of their once-prodigious gains, according to an estimate by Morgan Stanley. The calculation is based on trades placed by new entrants since the start of 2020 and uses exchange and public price-feed data to tally overall profits and losses.

 This particular snippet cites AMATEUR INVESTORS.  I guess we can also include for good measure, Tiger Global, ARK funds, Softbank, etc.  

–The top story on BBG website this morning is: TerraUSD stablecoin plunges as crypto market awaits rescue.  I’m afraid that I don’t know what terracoin is, but I did pull up this handy link that shows total market cap of crypto was around $2.8 trillion in November, and is $1.6 trillion 6 months later. https://coinmarketcap.com/charts/

Here are a couple of other amusing twitter links.  It was all so EASY back then…. https://twitter.com/jromeroCFP/status/1523769586218594304

What could go wrong? pic.twitter.com/aEkiJnEbVy

— TTI (@TikTokInvestors) February 16, 2022

TikTok Investors on Twitter: “What could go wrong? https://t.co/aEkiJnEbVy”What could go wrong? https://t.co/aEkiJnEbVy. 16 Feb 2022twitter.com

https://coinmarketcap.com/charts/
$2.8T in Nov to $1.6t now

Global Cryptocurrency Market Charts | CoinMarketCapThe above graph shows the individual proportions of the largest ten cryptoassets relative to the total market capitalization of all assets. Since BTC was the first asset, it has remained the largest by market cap, which is why it’s dominance in the market is a number that many people follow. We describe the assets tracked in this chart as cryptoassets because it includes tokens and stablecoins.coinmarketcap.com

NFIB and Russel

May 10, 2022

–Curve steepened as stocks fell to new lows on the year with SPX down 3.2% and Nasdaq Comp -4.3%.  The two year note plunged 10 bps to 2.616%.EDM3 is up 40 bps from the pre-FOMC low of 9619, currently printing 9661 (still the lowest contract on the strip).  2/10 and 5/30 both posted new recent highs, with the former +5.8 to 46.3 and the latter +4.7 to 22.5.  The most aggressive hiking scenarios have been scaled back; a string of 50 bp hikes is no longer being priced.  The theme in eurodollars was mostly put spread sales.

–Bitcoin was hammered and is down over 50% from the high.  Interesting tweet from CryptoWhale: “The recent price crash has put every single one of MicroStategy’s positions at a loss.”  The issue of course is leverage, as pledged collateral loses value against a backdrop of rising rates.  A Doomberg piece yesterday outlined the possibility of spiraling margin calls.

— Three year auction today.  Speakers include Bostic, Williams, Kashkari, Waller and Mester.  CPI Wednesday…a sigh of relief on signs that inflation has peaked?  Biden to exacerbate the problem by giving a speech today addressing high prices (by leaning into the microphone and using his homespun whisper to blame the Russians).

–NFIB Small Business Optimism this morning expected slightly lower from 93.2 last.  This is the lowest level since the Covid plunge in early 2020.  This survey has a decent correlation to the Russell 2000, which was down 4.2% yesterday and is off 28% from the high last November.  

Soft landing for asset prices?

May 9, 2022

–ESM at ytd low 4053.75 this morning, down 65.75 as of this writing, with TYM also at a new low -15.5 at 117-10.  The front end of the dollar curve is unchanged to a bit higher as flatteners continue to be exited after Powell’s dismissal of a 75 bp move.  On Friday, there was a block buyer of 60k EDU2 at 9731 as the contract on screen traded 9729.   The price quickly moved to 9733 and never looked back; now 9735.  Open interest fell by 50k.  Another block of 10k EDZ2 was purchased as well, OI fell by 17k in that contract.

–The Fed’s job is suddenly becoming a lot harder.  For all the Volcker comparisons it’s difficult to stand aside and watch both bonds and stocks crumble, but the die has been cast.  New recent highs in a lot of curve measures with red/gold pack at -17, up 11.75 on the day, having started April at -87.  5/30 is 18, having been -12 in early April.  Auctions of 3s, 10s and 30s this week.  At least five Fed speakers slated for comments tomorrow, including Bostic, Williams, Kashkari, Waller and Mester.  Biden also scheduled to address inflation tomorrow, just prior to Wednesday’s release of CPI, which is expected yoy 8.1% from 8.5%. 

Long Shots

May 8, 2022 – Weekly Comment
__________________________________

You got no time for the messenger

Got no regard for the thing that you don’t understand

You got no fear of the underdog

That’s why you will not survive

–Spoon – The Underdog

Coming into the stretch, Rich Strike was in twelfth place.  He was at least five lengths behind the pack.

Usually, I’m trying to pull together a few threads of market action to weave a view on sentiment and determine reasonable odds for various future scenarios. 

Instead, I’ve watched about 20 re-runs of the Kentucky Derby.  Rich Strike was only entered into the Derby when Ethereal Road scratched.  At the start of the race he was near dead last.  At the blazing half-mile mark he’s 15^th or 16^th and has a triangle of horses in front of him.  Out of the turn, jockey Sonny Leon made a move to the inside, but was still five lengths behind Messier (who was hugging the rail) and was also trailing six other horses on the outside. With about fifteen seconds left he had astonishingly made up about four lengths and was on Messier’s tail, but easily a length behind Epicenter.  Rich Strike took a quick right shoulder check and found daylight between Messier and Epicenter.  Boom.  Messier immediately faded at the challenge.  Rich Strike actually took a sidelong glance at Epicenter as he raced toward the leader’s left flank with about eight seconds left.  Then he just put his head forward and turned on the afterburners.  “OH MY GOODNESS, THE LONGEST SHOT HAS WON THE KENTUCKY DERBY!” Epic.  That must have been the fastest stretch ever.

We’ve lived through a couple of years of long shots and miscalculations.  We’ve seen options that might have appeared rich, which languished for a while and then surged to unimaginable levels.  About a month ago I had a friend tell me that Dec’23 500 calls were being quoted in WTI futures at about 50 cents.  I misheard the year at first, and thought he meant Dec’22.  The highest strike I could find on Dec’22 was the 300 call, and I have kept it on my board ever since, watching it hold at around 30 cents even as weeks have passed.  On Friday CLZ2 300c settled 0.35 with open interest of 379.  CLZ2 250 calls settled 0.59 with 1309 open contracts.  That’s the highest settle of the year for CLZ2 300c, the low has been 0.21. While the front contract CLM2 is not at a new high for the year, settling Friday at 109.77, CLZ2 did post a new high settle of 98.73.  The point of course, is that the price of fear has again taken its rightful place in this environment…but not across every market.

The event of the week had to be Powell at the FOMC press conference saying that the committee is not actively considering a 75 bp hike.  On May 3, the 2/30 treasury spread was 22.2.  By Friday it was 50.  Front end Eurodollar vol was pasted as the market removed the most aggressive forecasts of policy trajectory.  On May 3, EDM2 9812.5 straddle was 21 vs 9810, on Friday it settled 9.5 vs 9816, so it lost more than half its value.  The EDU2 9725 straddle was 62.0 vs 9725, and on Friday EDU2 9737.5 straddle settled 42.0 vs 9735.0 (the 9725^ settled 43.5).  Red/gold pack spread settled -17, having been -87 at the start of April.  So the curve steepened and front end vol declined. However, long end vol remained rather well bid.  And, after the Chairman just said that 75 is off the table, Richmond Fed President Tom Barkin opined that “nothing is off the table” when asked about the possibility of a 75 bps hike in an MNI Interview on Friday. Now both Bullard and Barkin are on the “ignore” list in terms of policy.

Also on Friday, Fed Governor Chris Waller gave an interesting post-mortem speech, ‘Reflections on Monetary Policy in 2021’, describing the range of opinions on the committee couched against the Fed’s dual inflation/employment mandate.  He essentially argues that those claiming the Fed “was behind the curve” are armchair quarterbacks; he defends the idea that the Fed made appropriate real-time choices in moving towards a more hawkish stance.  He backs his argument with data releases.  My takeaway, while I respect the main theme of the speech, is that the Fed has become a much more reactive rather than proactive institution.  The Fed is perhaps less sensitive to (and cognizant of) policy lags. 

It’s pretty clear that rate increases are going to make car leases and loans more expensive, and home loans more expensive.  Final demand will unequivocally be reduced.  According to the Nat’l Association of Realtors, the high median home price in 2019 was $285,000.  The current figure is $375,000.  So, in 2019, with a home price of $280k, a 30-yr loan at 3.75% and 20% down, the mortgage amount of $228,000, yielded a monthly payment of $1056.  In 2021, at $363k and a mortgage rate of 3% with 20% down, the monthly payment is $1234, so only $178 more per month, even as the house price increased by 29%.  However, at this year’s median price of $375k, with 20% down and 5.25% mortgage, the monthly payment is $1656.  That’s $432/month higher than last year, or 35% more, and it also required an additional $2500 for the down payment.  In this new scenario, the homeowner pays down just under $14000 in principal over the first three years.  If the price of the home declines back to median price in 2021, it’s a reduction of $12000, just about the same amount as the paid-up principal reduction.  What does that do to demand?  Might as well rent.

On the chart below, the white line is the Median Existing Home price, and amber is the 30 year conventional mortgage rate, as of 2010.

The chart below, which shows the decades long bull market in bonds (shown in terms of yield, log scale) doesn’t suggest immediate relief in the march to higher rates.  The most recent high in 2018 was 3.45%, versus the current 3.22%.  If 3.45 is taken out, then we will have clearly shifted to a pattern of higher lows and higher highs.

Five years ago in June 2017, then Fed Chair Janet Yellen said banks were much stronger than before, and that she did not believe there would be another financial crisis in our lifetimes.  While the US banking sector appears robust, a financial crisis could be very close. Indeed, a BBG interview with Jamie Dimon on May 4 was illuminating.  He’s obviously worried about energy and advocates a national (western) industrial/energy policy.  Here are a couple of interesting quotes: “The Fed’s job would be easier if we had rational thoughtful economic policy…”  “…global energy is precarious.  And if oil goes to $185 it’s a huge problem for people and we should do everything we can today.  We need to pump more oil and gas…”  His point is that we need to cooperate and prepare right now for the possibility that things get much worse.  “National security is the most important thing.” “I don’t think a slowdown in the global economy is a disaster…but I think potential outcomes in Ukraine are.”  In listening to Dimon, it’s mostly about taking prudent steps to protect against the worst outcomes while hoping of course, that they don’t occur.  He’s metaphorically buying the rich strikes.  Think CLZ2 300 calls. 

OTHER MARKET THOUGHTS/ TRADES

This week features several Fed speakers on Tuesday.  NFIB Small Business Optimism plunged to 93.2 last; it’s released on Tuesday and could test the 2020 low of 90.9, which would instantly elevate the stature of the report.  Wednesday and Thursday bring CPI and PPI with headline yoy on CPI expected 8.1% from the eye-popping 8.5 last.  Core expected 6.0 from 6.5. 

Auctions feature 3s, 10s and 30s Tuesday, Wednesday and Thursday.  I would expect a bit more of a concession in the early part of the week, with the prospect of lower inflation numbers providing midweek support.

	4/29/2022	5/6/2022	chg
UST 2Y	269.6	271.6	2.0
UST 5Y	291.6	304.0	12.4
UST 10Y	288.7	312.1	23.4	WI 311.2
UST 30Y	294.7	321.8	27.1	WI 319.2
GERM 2Y	26.1	32.0	5.9
GERM 10Y	93.8	113.2	19.4
JPN 30Y	96.2	100.8	4.6
CHINA 10Y	284.0	283.0	-1.0
EURO$ M2/M3	168.5	175.0	6.5
EURO$ M3/M4	-39.0	-30.5	8.5
EURO$ M4/M5	-16.5	-8.5	8.0
EUR	105.46	105.48	0.02
CRUDE (active)	104.69	109.77	5.08
SPX	4131.93	4123.34	-8.59	-0.2%
VIX	33.40	30.19	-3.21

Pay now or pay later

May 6, 2022

–Tweet by @jasongoepfert that was going around late yesterday:
“There have been 2 days in the past 25 years when S&P futures were down 3% and 10-yr treasury futures down 1%: October 9, 2008 and March 18, 2020.
Someone is blowing up, and this is forced liquidation.”
–I don’t know if the ‘blow-up’ rumor is true, but I do know that any forced exits are occurring in an environment of reduced liquidity.

–SPX down 3.56% yesterday, Nasdaq Comp -5.0% and DJIA -3.1%.  Tens rose 15 bps to 3.064% (at futures settlement time).  The curve was steeper, with 2’s up 10.2 bps to 2.716% and 30s up 16 to 3.15%.  EDM3 eurodollars are still the cheapest on the strip, settling at 9635.5 or 3.645%, down 13 on the day.  That price is consistent with FF target 3.25-3.50%.  The current target is 0.75-1.0%.   There are 9 FOMC meetings (including June 2023, just after the contract expiry).  So that would mean 250 bps worth of hikes over nine meetings.  On a linear basis, that’s a bit over 25 bps per meeting.  Doesn’t seem crazy.  Of course in the last cycle the peak was 2.25 to 2.5%; the last hike was on Dec 19, 2018.

–There was a fair amount of long put spread liquidation in euro$’s, for example a seller of 25k EDZ2 9818.75/9800ps at 17.25.  However, total EDZ2 open interest only fell 30k.
  –Here are changes in front ED straddles, from Monday’s close to yesterday’s close.  Monday, EDM2 9812.5^ 21.0 vs 9810.  Yesterday 9.5 vs 9814.5.  EDU2 9725^ 62.0 vs 9725. Yesterday 44.5 vs 9730.0.  EDZ2 9675^ 93.0 vs 9676.0.  Yesterday 74.5 vs 9677.5.  Just looking at these declines, one might say that the Fed’s message was well rec’d and expected…not much to see here.  However, there are a lot of embedded economic fragilities in the economy being reflected by both stock and bond prices. 

–What does the Fed do now if there’s another LTCM type blow-up?  Ease?  Pull the banks together to bail out the offender?  Stop balance sheet changes? It might just be that asset markets have to find a new level without the Fed stepping in. 

–Employment number today with NFP expected 400k and the rate expected 3.5%.  Speeches by Williams and Bostic, with Waller and Daly post-close. Minor note: Unit labor costs yesterday reported at +11.5%.  If inflation is 8 to 8.5%, that would suggest a headwind on profits, a shift from capital to labor (which tends to resolve in job cuts).  At the end of the day, Consumer Credit is released, expected +$25 billion from a whopping $41.8b in Feb.  On that note, I’m going with CHARGE IT in the Kentucky Derby, to win!

Bullard now irrelevant

May 5, 2022

–“…a 75 bp increase is not something the committee is actively considering.” With that rebuke, Powell effectively sidelined Bullard, who had been the primary advocate of aggressive hiking.  We can now disregard Bullard’s speeches as interesting, but on the hawkish fringe, irrelevant for policy, just as Kocherlakota occupied the dovish fringe in his time on the Fed.  Stocks soared, the curve steepened.

–Just prior to the FOMC, May Fed Funds were trading around 9921 to 21.5, indicating at least some chance of 75.  On 50 they immediately went to 23/23.25 (settled 9923.0) as those fears went unrealized.  However, July Fed Funds remained right were they were, at 9851.5/52.  That is, the spread between May and July, which prices the June 15 and July 27 FOMC was about 71.25 to 71.5 bps.  Assuming 50 bps at the June meeting and the July meeting (which is worth 6.5 bps to the contract) would yield a spread of 62.5… that is, FFN2 should be more like 9860.5 (if I’ve done the math right*).  As the press conference started, FFN2 actually traded down to 9847/47.5, indicating an INCREASE in the odds of 75.  When Powell made his “not actively considering” comment, FFN2 immediately traded up to 9857/57.5 where the contract settled.  Surprisingly, FFN2 is slightly lower this morning at 56.5/57.  I highlight this front end pricing because it explains larger moves.  For example, the two year note yield plunged by 15.4 bps to 2.614…if 75’s are off the table, there was too much priced.  But the prospect of large hikes also had been the catalyst for flattening, and the unwind of that possibility caused sharp steepening.  The 30 yr yield was nearly unchanged and tens only fell 4 bps to 2.915.  This dynamic is also apparent on the dollar curve: reds (2^nd yr forward) were +15.5 and golds (5^th yr) were +2.75.  Implied vol was crushed.  For example, red atm straddles fell around 10 bps.  TYM atm straddle went from 8.8 to 7.7 although declines in July premium weren’t as pronounced.  

–Stocks rejoiced in a relief rally, though the fundamental backdrop isn’t particularly encouraging.  Some are hoping for a repeat from the March FOMC, which marked a bottom in stocks and subsequent ripping rally thru month-end (4200 to 4600 in SPX).  Jury is out, but overnight declines suggest a similar rally is unlikely this time around.

–With respect to the steepener, it’s somewhat interesting to note atm nominal straddle levels in midcurves.  Because of the risks of aggressive near term hikes, the nominal levels of red straddles have been higher than deferred.  This is still the case at yesterday’s settles.  For example, 0EU2 9662.5^ (EDU3 underlying) 75.0s, 2EU2 9687.5^ (on EDU4) 70.5s and 3EU2 9700^ (on EDU5) 67.5s.  The strikes are higher in back due to inversion, and the straddle prices are lower (with the same amount of time left).  This pricing, in both the curve and straddle levels should begin to shift if the market really believes Powell is slowing it down. Similarly, FV vol should begin to ease relative to US.

*Fed Effective was 33 bps going into the FOMC. With a hike of 50, the new EFFR should be 83. So for May Fed Funds (FFK) 4 days at 33 bps and 27 days at 83 is 76.5, that is, a price of 9923.5. For July, if there is a 50 bp hike in June, EFFR goes to 133, and another on July 27 is 27 days at 133 and 4 days at 183 yields 139.45 or a price of 9860.55.

Interest rate anguish (with tens at 3%)

May 4, 2022

–New low settles in EDU2, Z2, H3, M3 (9720, 9671, 9646 and 9631.5) in front of the FOMC and futures are a couple lower this morning.  Relentless.  At the futures settle, 2s were at a new high yield of 2.768, up 3.5), 5s at 3.003 and tens at 2.956%.  As a friend pointed out, July Fed Funds settled 9851.5 or 1.485%.  Current Fed effective is 33 bps.  The difference is 115.5.  The July FOMC is on the 27th, so whatever happens at that meeting is worth 13%, i.e. a hike of 25 causes a price decline of 3.25 and a hike of 50, 6.5.  Therefore, if the market was exactly pricing three 50 bp hikes in a row, FFN2 would be 33+106.5 or 139.5, a price of 9860.5.  Obviously, a bit more is embedded.  

–EDM3 is still the lowest contract on the strip at 9631.5, but looking at the chart, there doesn’t seem to be any reason it couldn’t go to 9600.  EDM2/EDU2 settled at another new high of 89.5, rising 4.5 on the day!  Powell’s going to show up at the press conference in a rumpled suit, smoking a stogie and wearing one of those canvas fishing hats with a couple of lures pinned to it just to drive home the Volcker-esque message.  (Except Volcker wouldn’t talk about it, he’d just raise rates).

–In front of today’s FOMC, there was selling of eurodollar straddles, notably EDZ2 9675^ which settled 90 from 93.  EDU2 9725^ settled 58 from 62.  These are still high levels, and as Nova Satus mentioned, if the Fed hikes 50 three times in a row, the range of possibilities for the rest of the year narrows.  

–Of course, if stocks continue their descent, then my guess is that three 50s in a row will be in question.  Powell may think he’s Volcker, and certainly he handled the pressure from Trump rather gracefully, but if stock fortunes crumble the pressure will be magnitudes of Trump’s harping during the 2018 cycle.

–Trade, ISM Services and ADP (expected 400k) this morning.  

Watch TIPS

May 3, 2022

–Fives, tens and bonds all ended above 3% on Monday, with 10s up 12 bps to 3.006%.  The curve steepened with the 2y note up only 3.7 to 2.733%.  On the eurodollar strip reds were down 7.125, greens -11, blues -12.375 and golds -14.875 (new lows for the move in the back end of the curve).  The big story is that REAL yields exploded higher.  For example, the ten-yr inflation indexed note rose 20 bps from -3.7 to +16.7.  In a general sense, real yields that are negative are expansionary; a move to more restrictive real yields is disinflationary and indeed gold was crushed by $50/oz.  It’s around 1850 this morning, down over 125 in two weeks.  As can be seen from the attached chart, the real yield as expressed by the ten-yr tip has been negative since covid.  A move to positive is possibly the start of big change in sentiment, indicating that the Fed will carry through on policies to stifle growth and inflation. 

–RBA (Australia) raised the cash rate by a quarter percent from 0.10 to 0.35 to withdraw “…some of the extraordinary monetary support.”

–The treasury announced new borrowing estimates.  For the Apri-June period, Treasury expects to pay down $26 billion.  “The borrowing estimate is $92b lower than announced in January 2022, primarily due to an increase in receipts, partially offset by increases in outlays…”  This small change in supply is pretty meaningless against the backdrop of balance sheet reduction.  In the bigger picture, higher yields and a decline in forward expectations of inflation will draw capital to bonds.  

https://home.treasury.gov/news/press-releases/jy0755

Powell on Wednesday

May 2, 2022

–Friday featured a decline in equities, with SPX -3.6% and Nasdaq Comp -4.2%.  Interest rate futures remained under pressure led by weakness in front, as EDU2 and EDZ2 both made new lows for the move.  On Dec 31, EDZ2 settled 9895.5.  On Friday it settled 9677.0, 218.5 bps lower in four months!  FFF3 settled 9717 or 2.83%, pricing exactly 250 bps (more) of hikes by year end.  We’ll get started with 50 at Wednesday’s meeting, but Powell will have to talk tough even as asset values crumble.  There are five FOMC meetings remaining in the year after this one.  

–As mentioned, EDZ2 led the weakness, settling down 8 on the day at a yield of 3.23%.  The two-yr yield rose 5 bps to 2.696%, while tens and bonds were up around 2 bps each, with tens 2.887%. EDM2/EDU2 settled at a new high of 83.5 bps, which is approximately half of EDM2/EDM3 which closed 168.5.  They’re ripping the band-aid off this year.  Next year is forecast to be a different story, with EDH3/EDH4 settling at new recent low of negative 17.  This morning there appears to be some rotation for the new month, with stocks up slightly and commodities losing ground as the dollar continues to trade with a strong bid.

–Today brings ISM Mfg expected 57.5 from 57.1 last.  FOMC on Wednesday and Payrolls on Friday, expected around 400k. 

Colder by the Lake

May 1, 2022 -Weekly Comment

We’ve entered that phase of the year when every kid from the west suburbs of Chicago used to hear this from their moms if they were going downtown, “Take a coat.  It’s colder by the lake.”  It’s a bit of sage insurance advice.  Oak Park, where I grew up, is about nine miles due west of the Lake Michigan shoreline, and the difference in springtime temperatures could easily be 10 degrees.

Here are a few ytd percentage changes in equity indices:
DJIA       down 9.4%

DJT         down 9.8%

SPX        down 13.3%

R2K        down 17%

Nasdaq down 21%

The colder lakefront temperatures are currently associated with “innovation” and “disruptors” in today’s stock market.  If you didn’t already have some insurance in the form of puts, it might be a bit late now (or might not), as highlighted by the chart below.  It’s the ARK Innovation fund pictured over the date range of May 2019 until now.  From its high in the beginning of 2021 until Friday it lost 70% of its value, pretty much a full round-turn from pre-covid.  Overlaid in pink is the Nasdaq “bubble” from June 1998 to June 2001.  From its high in March 2000 to its low a year later, it fell 67%. Unfortunately, the March 2001 low was not the ultimate low, that came over a year later in October 2002 at 1114, which was another 30% lower than the March 2001 low of 1639.

Investors tend to get giddy when they’re presented with new innovations, and they tend to overlook possible obstacles and competitive challenges, especially when there are no funding hurdles.  In hindsight, the “innovation” of 2020 was the overwhelming stimulus from the Federal Gov’t and from the Federal Reserve.  It has now gone into reverse-novation.  It’s little wonder that Q1 GDP was -1.4% though it was expected +1.2.  Stimulus checks ran out.  Debt and rent forbearance are over.  Yoy growth in M2 had surged over 26% in the beginning of 2021 and is now 8.6%, still high, but much closer to pre-pandemic levels.  Inflation expectations have shifted higher.  A more stagflationary period appears to be ahead, as reflected by the negative Q1 GDP number with PCE deflator released the following day at 6.6%.  The state of the equity market was aptly described by Charlie Munger, “We have people who know nothing about stocks being advised by stock brokers [TV commentators] who know even less.”

On Wednesday, Powell has an in-person press conference following the FOMC announcement.  His job is to underpin the Fed’s commitment to anchored inflation expectations, which have floated well away from the pier.  On November 11 of last year Powell retired “transitory” from the Fed’s lexicon of price pressures.  At the Dec 15 FOMC, he advocated a “gradual pace of firming” but also opined “I wouldn’t say we’re behind the curve” in response to a reporter’s question.  In support of a more hawkish tilt, he mentioned the ECI, (Employment Cost Index) released just before the Nov 3 FOMC, the strong employment report two days after the meeting and the CPI report which followed a week later.  At that time QoQ ECI was 1.2%, and last week it was reported at a record 1.4% for Q1 22.  The CPI report cited by Powell was 6.2% (released 11/10) but is last at 8.5%.  The unemployment report was 4.6% (on 11/5), but last at 3.6%.  In December the projections for year-end 2022 were as follow: Fed Funds 0.9%, PCE prices 2.6% and GDP 4%.  At the last meeting in March: FF 1.9% (up to 2.8% by the end of 2023), PCE prices 4.3% and GDP 2.8%.  There are no projections at this meeting, but the January 2023 FF contract, which prices the end of 2022, is currently 9717 or 2.83%, a full year ahead of schedule. 

In short, the data has become much more challenging for the Fed, using Powell’s own guideposts. In 2018, it was the 20% drop in SPX from October to the end of December that sparked an end to the Fed’s tightening.  From this year’s high on January 3 of 4796, a 20% drop would be 3837.  We’re now 4132.  However, re-anchoring inflation expectations, which the Fed has repeatedly said it has the tools to accomplish, means ignoring asset prices.  We’ll see if the Fed can stand the pressure around SPX 3800, especially in light of headlines like this: “Top Five U.S. Stocks Lose $1.2 Trillion in Value in April.” 

Some commentators are saying that last week’s stock market sell-off was due to fears of a 75 bp move at this week’s FOMC.  If the Fed hikes 50, the projected level for May Fed Funds (FFK2) would be 9923.5.  Friday’s settle was 9921.5.  A hike of 75 would put FFK2 at 9902.0. It’s pretty clear that the market is NOT expecting 75 at this meeting, pricing just reflects someone bringing a light jacket.

It does, however, remain abundantly clear that the market has accepted the Fed’s prescription of front-loaded hikes.  EDM2/EDU2 three month Eurodollar calendar settled at a new high of 83.5 on Friday (9807.5/9724.0).  EDM2/EDM3 one-yr calendar settled 168.5.  So the three month spread is nearly half the one-year spread.  That’s a FRONT LOAD.  In fact, EDM’23 is (still) the lowest contract on the ED strip at 9639.0 or 3.61%, while on the SOFR strip it is also SFRM’23 at 9672.0 or 3.28%.  Contracts following June’23 are at successively higher prices / lower yields. The message is that the market puts the terminal rate at 3.25 to 3.5% which, by extension, is the level at which inflation is eventually tamed in a stagnant growth environment.              

	4/22/2022	4/29/2022	chg
UST 2Y	267.0	269.6	2.6
UST 5Y	293.3	291.6	-1.7
UST 10Y	290.2	288.7	-1.5
UST 30Y	294.7	294.7	0.0
GERM 2Y	27.6	26.1	-1.5
GERM 10Y	97.0	93.8	-3.2
JPN 30Y	101.4	96.2	-5.2
CHINA 10Y	284.5	284.0	-0.5
EURO$ M2/M3	171.5	168.5	-3.0
EURO$ M3/M4	-38.0	-39.0	-1.0
EURO$ M4/M5	-21.5	-16.5	5.0
EUR	107.90	105.46	-2.44
CRUDE (active)	102.07	104.69	2.62
SPX	4271.78	4131.93	-139.85	-3.3%
VIX	28.21	33.40	5.19

• ABOUT:
  Former member of the CME specializing in interest rate options and yield curve strategies.