Capital Markets Update

By Louis S. Barnes                                 Friday, May 22, 2015

Another week of anxious pencil-tapping in quiet markets, and one more holiday-short week ahead before events will conspire to move the herd. Long quiet, big move.

A “data-dependent” Fed means more than ordinary waiting for data. If the Fed is waiting, too, then we’re really waiting. The first flash report on May manufacturing will appear Monday, June 1st, employment data Friday the 5th. Nothing is going to happen until we know if the economy is coming out of its apparent stall, and at what slope.

Q1 GDP is going to be revised to negative, and Q2 will look pathetic, but it’s all about trade accounts, not actual stall. The pattern, exports-down/imports-up means that we’re buying someone else’s production, but we’re still buying at a roughly 2% annual expansion pace. If consumption stops, then we’re stalling.

Overseas data matters more all the time, but arrives at nearly random moments compared to the regular cycle of US data. The one standout through the holiday week: it looks as though Greece will at last default and exit. Its 2-year sovereign IOUs today trade at an annual yield of 73% — a bet that you might earn interest for a year and at maturity receive 25% of your principal. Markets are either prepared, or bored stupid by the story and will be surprised.

Janet Yellen spoke this afternoon. Beware Fed Chairpersons speaking on Friday afternoons before long weekends! When a bomb needs to be dropped, better to give markets three days to dig out and calm down before trading resumes.

No bomb today, just deep wisdom every time she speaks, distinguished by noting the limitations on her own knowledge. She opened by establishing that the economy is “not yet” at full employment, but in Q&A said that if her forecast for an improving economy pans out, then a rate hike is coming in 2015. Balanced by all of the following:

“A number of economic headwinds have slowed the recovery”: housing, fiscal contraction, and weakness overseas. Pea-brains in the financial press continue to say that housing is slowed by higher prices (NYT today) and/or scarce inventory (NAR, WSJ, NYT). Please, people, think: rising prices add heat to housing markets by expanded equity and therefore down payments for trading-up/down/sideways, easing commission payments, and reducing fear of a new bust. My local market is in an extreme expansion after 12 dud years, unit sales up 15% YTD despite inventory falling below sustenance — because listings are not listed long enough to become statistical “inventory.”

What is really wrong with housing? “…Mortgage credit, but more generally, many years of a weak job market and slow wage gains seem to have induced many people to double-up on housing, and many young adults continue to live with their parents.”

Right! Weak housing reflects the weakness of households. What to do about that? “Sustained increases in productivity are necessary to support rising incomes. The growth rate of output per hour worked has averaged about 1.75% per year since the recession began in late 2007. This rate is down from gains averaging 2.75% over the preceding decade. Policies to strengthen education, to encourage entrepreneurship and innovation, and to promote capital investment, both public and private, can all be of great benefit.”

Yup. Would be helpful if we did any of that. Limits to knowledge and power: “The Federal Reserve’s objectives of maximum employment and price stability do not, by themselves, ensure a strong pace of economic growth or an improvement in living standards.” Meanwhile an asinine bunch — from Senators Elizabeth Warren and Richard Selby trying to limit — powers the Fed does have, to a crew on Wall Street including Stanley Druckenmiller and Satyajit Das — wants you to believe the Fed has caused all of our trouble.

We must pull up our own socks. The Fed saved us, and since has done what it can.

Setting a standard for all future Fed Chairs for data-dependency and humility: “I can assure you that any specific projection I write down will turn out to be wrong, perhaps markedly so.”