Bond Market Erases All Post-Trump Hope For Continued Growth

Fool me once, shame on you; fool me twice, shame on me; fool me again and I'm just not paying attention...

For the 3rd time since President Trump's election, the spread between the 3-month LIBOR rate (real-world funding) and 2-year Treasury yields (market's perception of the monetary policy cycle) has inverted. But, as they say, this time is different as this has erased all the implied growth in the economy since Trump's election and the market seems to see - post-Midterms - nothing that Trump (or The Fed) can do to rescue it.

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Most critically, we are seeing a big divergence between 3-month Treasury yields (flat to dovishly lower) and 3-month Libor (inexorably higher) signaling a demand-side rise in company's cost of funding while Treasuries are all Fed and supply driven...

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In other words, tightening for the real economy but easy conditions for markets.

And, as The Macro Tourist's Kevin Muir writes in his latest notedon't hold your breath for anything but a dovish Powell on Wednesday (and the market is already priced for the exsanguination of all hawkishness)...

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It seems like a lot of hard-money-hawks were caught off guard by last month’s dovish shift by Powell. I have had more than a couple of conversations with different market participants who have expressed disbelief about how quickly Powell abandoned his tough “we-won’t-let-market-conditions-influence-our-monetary-decisions” policy. These Powell-disciples are rightfully feeling a little betrayed. After all, Powell promised he would tune the economy to the real economy, not the financial economy. For these new-era hawks, the problem of the last decade has been a FOMC board that has caved to every hiccup in the stock market. They have argued that in the long run, these policies create an economic environment filled with excesses and misallocated resources which ultimately leads to less growth. They were excited to finally have a non-academic business-person in the FOMC Chair that recognized this reality.

I understand their point of view. And although I am not smart enough to judge correct policy, I have been around the block enough to know the chances of their policies being enacted is about high as Salma Hayek phoning me up to go out for coffee (see High Debt Levels Rant for backstory).

It was easy for Powell to mouth words about not being beholden to each market tick when the stock market was shooting higher. It didn’t take much courage to stress the long-term-soundness of money when financial conditions were easing.

But really, why was Powell so intent on establishing such a hawkish tone?

After all, have a look a the Federal Reserve’s preferred measure of inflation - the Core PCE Deflator - over the past two decades:

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You might disagree with the Fed targeting 2% inflation. Yeah, I get it. it is arbitrary and could very well be improper policy. But here is my advice. Instead of spending your money fighting the market hoping for the Federal Reserve to realize that 0% is a better target, take that money and run for office so that you can change policy. As I repeat time and time again, trade the market in front of you, not the one you want.

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