From ZeroHedge: The Fed isn’t hawkish, exclaims Bloomberg’s Mark Cudmore. In fact, in relative terms, recent rhetoric has been long-term dovish, which means the dollar will likely break the lower end of its range soon.
“Rubbish,” I hear you cry. “Look at all the headlines we’ve had from Fed speakers in the past week. Look at Fed futures! The probability of a rate hike by year end has climbed.”
Beyond the consistent headlines talking up an imminent Fed hike or regurgitating the truism that every meeting is “live,” the substance of recent commentary from policy makers has been notable for its balance, and that’s a dovish shift.
While they’ve desperately tried to assure the market that they still hope to raise rates soon, they’ve also reiterated that the neutral rate is perhaps much lower than envisioned.
By citing the many issues potentially preventing a sustained hiking cycle, they’re subtly acknowledging the “one and massive pause” theory that the market has been pushing for a while.
That’s why the yield curve has flattened further even as the probability of a 2016 move increases… “fool me a 4th time and I lose all faith in The Fed”
The dollar rallied hard for 18 months from mid-2014 on the premise that the Fed was on the verge of beginning a wholehearted hiking cycle.
It finally raised rates in December 2015, and the dollar has weakened since then. What happened? Everyone realized that the hiking cycle would be significantly slower than anticipated.
The market has consistently been more dovish than the Fed, and correctly so. The next step is for the committee to converge to the fact that a sustained hiking cycle is a myth. Sure, a hike this year is very possible, as well as perhaps another one next year. But rates are not roaring higher any time soon.
Fed rhetoric is tacitly starting to admit this fact through all the statements questioning the whole policy framework. Indeed, that is the whole focus of this weekend’s Jackson Hole economic symposium.
The most hawkish people left are the media who love the excitement of a will-they-won’t-they story. Once the real story emerges, the dollar may face serious long-term downside.
The 1,150 support in the Bloomberg Dollar Index has held repeatedly during the past 18 months…
It’s unlikely to hold much longer and could even be broken as soon as Jackson Hole comments are assessed.
Even more interesting, perhaps, is the relative call to be made between the Fed policy shift and the macro environment. BofAML’s Michael Hartnett lays out a framework for thinking about this relationship below:
- Dovish Fed & stronger macro: yield curve bull steepens (short-rates fall faster than long-rates)…bullish combo for risk assets = OW equities, credit, commodities & EM equities until market corrects as investors think the Fed is “behind the curve”;
- Hawkish Fed & stronger macro: yield curve bear steepens (long-rates rise faster than short-rates)…renewed animal spirits & proof of “Quantitative Success” = OW US$, value, banks/cyclicals & EAFE equities;
- Dovish Fed & weaker macro: yield curve bull flattens (long-rates fall faster than short-rates)…secular stagnation worries deepen = OW govt bonds, gold, growth & US equities;
- Hawkish Fed & weaker macro: yield curve bear flattens (short-rates rise faster than long-rates)…recession risk rises = OW cash, vol and defensives.
Right now we have “hawkish” Fed pricing into Fed Funds with a drastically-weakening macro picture…
We suspect – post J-Hole – that the market’s realization of a “dovish”-er Fed and a weaker macro backdrop will be realized, and as BofA just explained – that is good for bonds, gold, and bull-flattening collapse in the curve (which is already starting).
The iShares Barclays 20+ Year Treasury Bond ETF (NASDAQ:TLT) closed at $139.70 per share on Wednesday, down $0.33 (-0.24%). The largest ETF tied to long-term U.S. Treasuries has risen nearly 16% year-to-date.
This article is brought to you courtesy of ZeroHedge.