Mispriced Delusion

When any official, political outfit characterizes anything as “mixed signals from the global economy” they don’t actually mean mixed. The correct word to have used in this context would have been contradictory. They mean “mixed” in the sense that the evidence is increasingly going the other way which doesn’t comport with the hugely optimistic standard narrative.

The data is negative but the narrative remains positive nonetheless. That kind of “mixed.”

You have Jay Powell on the one side who is Chairman of the Federal Reserve. That’s it; the entire basis to his argument is this pedigree which somehow gives him license to say some pretty stupid things and then repeat them. Over the summer, we were treated to his (and the FOMC’s) constant insinuations that bond markets were “mispriced.” We would never associate the government with gross incompetence, right?

For some reason, despite the utterly humiliating performance of Fed Chairmen in all recent memory, this still means something for especially media and the mainstream narrative.

Stacked against Powell is the eurodollar futures market now pricing lower interest rates maybe early in 2019. They are mispriced, too?

Each eurodollar futures contract denotes a theoretical $1 million eurodollar deposit. It is priced based on 3-month LIBOR, settled at maturity 100 minus the 3-month LIBOR index.

As of today, that means there are more than a million contracts outstanding representing $11.2 trillion in prospective eurodollar deposits out to and including the September 2021 maturity. That’s an enormous, incomprehensible amount of market resources absorbing what can only be described as massive and still growing fear. That’s a lot to all at once declare Powell’s about to humiliated. 

In a market that is this deep, what do you think would be required for it to “misprice” the situation so badly? Eleven trillion declares unambiguously that if the inverted curve was nothing more than the product of whimsy or thin reasoning it wouldn’t get very far. It couldn’t, not with so much on the line. A few stray contracts aren’t going to move the tiniest section of the curve even a little; for the whole to distort this far (and keep going) can only mean that there is widespread, worldwide agreement.

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