Daily Economic Update: December 21, 2023

 "A life without friendship or leisure lacks a specific something, for which no amount of respect can compensate.  This is why moralists from Aristotle and Confucius onwards have cautioned against excess specialization.  Single-minded concentration on one small branch of art or science may enrich the common stock, but only at the cost of deforming the individual artist or scientist.  Of course, those in possession of the full set of basic goods may reasonably strive for additional, more specific goods.  We have no wish to make mediocre generalists of everyone.  But no one, however successful in a single domain, can claim to lead a good life if he lacks the rudiments of health, leisure, personality and so forth."

                        - Robert and Edward Skidelsky, How Much is Enough 

Daily Economic Update: December 20, 2023

 "...These leaders too often fixate on advancing their own fame, fortune, glory and legacies at the expense of the company and Cause. Management becomes disconnected from people and trust breaks down. And when performance starts to suffer as a result, these same leaders are quicker to blame others than to look at what set the company on the new path in the first place.  In order to "fix" the problem, their faith in people is replaced with faith in the process. The company becomes more rigid and decision-making powers are often taken away from the front lines. It can't be a good thing when the captain of the ship, who is supposed to be on deck navigating toward the horizon, is now in the ship tinkering with the engine trying to make it go faster."

                        - Simon Sinek, The Infinite Game 

Daily Economic Update: December 19, 2023

 "The word "decision" comes from the Latin word caedere, which means "to cut".  When we decide to pursue one thing, we necessarily cut away another.  If there's no cutting, we haven't made a decision at all."

"The word "discernment", on the other hand, comes from the Latin root discernere,  which means "to distinguish"; it refers to the ability to see the difference between two paths and know which one is the better way forward."

"Discernment is an essential skill because it's a process for making decisions that includes but also transcends rational analysis.  It's critical for deciding which desires to pursue and which ones to leave behind."

"After all of the rational considerations have been laid out, what if there isn't a clear-cut way forward?  This happens all the time in life."

"...Many books have been written about improving one's ability to discern well.  Here is a distillation of some key points: (1) pay attention to the interior movements of the heart when contemplating different desires - which give a fleeting feeling of satisfaction and which give satisfaction that endures? (2) ask yourself which desire is more generous and loving; (3) put yourself on your deathbed in your mind's eye and ask yourself which desire would be more at peace with having followed; (4) finally, and more importantly, ask yourself where a given desire comes from."

" Desires are discerned, not decided. Discernment exist in the liminal space between what's now and what's next.  Transcendent leaders create that space in their own lives, and in the lives of people around them".

                        -Luke Burgis, excerpts from "Wanting" 

 

 

 

 

    

 

 

Daily Economic Update: December 18, 2023

 "We will continue to ignore political and economic forecast, which are an expensive distraction for many investors and businessmen."

"In each case, we pondered what the business was likely to do not what the Dow, the Fed, or the economy might do."

            -Warren Buffett (two separate quotes)

Sure there was the BoJ and we've got economic data, including PCE and there will be Fedspeak, but this week we're going to ignore the noise.  

This is the only X/Twitter Thought of the Day I'll post for the week.  I think it illustrates Wednesday to Friday of last week fairly well. 

For the remainder of the week, you'll get one quote/excerpt a day from whatever books I have laying around.

XTOD: Kyla Scanlon  @kylascan How the Fed Navigates Uncertainty through Lovebombing
https://twitter.com/i/status/1735772930175373430

Daily Economic Update: December 15, 2023

Yesterday's retail sales were better than expected and jobless claims show no signs of labor weakness, yet rates continued their post FOMC decline.  The BoE and ECB both sounded more hawkish than the FOMC.  Yields continue to fall further to start the day as the everything rally continues.  2Y at 4.39% and 10Y at 3.92%.

ATL GDP now is at 2.6% for 4Q.  Empire Mfg and Industrial Production on the day ahead. 

In sticking with the holiday theme of issuing reports about financial stability, here is the Financial Stability Oversight Council's 2023 report  in which they cover a range of potential vulnerabilities and provide recommendations for action.

XTOD: Holiday Video (Blackstone's Version) 🎬🎵  Inspired by the Eras Tour, Steve Schwarzman & Jon Gray take $BX on the road for “The Alternatives Era” Tour… many sequins & one original song later, we bring you the latest in our annual tradition ⬇   Watch the full video: https://bit.ly/47V13YZ

XTOD: I watched this again and I’m 80% sure it’s going to be in a documentary ten years from now about a massive financial crisis

XTOD: “Not only will we not tell you the accurate marks, but we’re hilarious!”  Aside from the cringeworthy video, can we please stop calling highly correlated levered equities “alternatives” because they don’t update the prices?  That doesn’t make them bad investments, but they ain’t alternatives.

XTOD: Powell has no problem with money going into stocks. It cant do any (inflation) damage there, and the capital gains tax revenues will be welcome. He needed to get the "pivot" (which, unlike the Put,  was always inevitable) out of the way before Iowa. Now they go dark.

XTOD: Criticize the Fed on policy grounds, but trade with them, because they are bigger than you. 

I do both :)

XTOD: Here's a great stat for you: The small-cap Russell 2,000 made a new 52-week high today after hitting a 52-week low just 48 days ago.  That's the shortest turnaround time in the index's history to go from 52-week low to 52-week high dating back to the 1970s!

XTOD: A quick 🧵on monetary policy because I see a lot of market commentators who don’t seem to understand what the Federal Reserve is thinking regarding the future path of interest rates. One way to think about monetary policy is in terms of the difference between the policy interest rate and the “natural” interest rate.  The conventional wisdom in the mainstream of the profession is that when the policy rate is below the natural rate, inflation rises. When the policy rate is above the natural rate, inflation declines. When the policy rate is equals natural rate, the inflation rate is constant. If you accept this premise and you are in a world of rising inflation, that means the policy rate is too low. But you can’t just raise the policy rate to equal the natural rate since you need inflation to decline. Thus, you have to raise the policy rate above the natural rate.  Of course, you can’t leave the policy rate above the natural rate indefinitely. Thus, once inflation comes down and expectations of inflation start to be around the central bank’s target rate, they should lower the policy rate down to the natural rate.  Thus, there’s no great mystery about why the Fed is signaling that rates will be lower next year. This isn’t the Fed admitting there are fiscal constraints. This isn’t the Fed having weak hands. This isn’t (necessarily) an Arthur Burns moment. This is their standard framework.  Now, it’s possible that they lower rates too soon. That could be — or might lead to — an Arthur Burns moment and the potential for the stop-go policies of the 70s.  But the main challenge the Fed is going to face in the months ahead is how it weighs its credibility with the public against what their policy framework would say to do. They might be reluctant to lower rates if the public sees them as lowering rates too soon.  Thus, if they lower rates too soon, inflation won’t get back to 2%. If they are perceived to have lowered rates too soon, this affects their credibility & inflation expectations could be wildly un-anchored.  If they wait too long to lower rates, they’ll likely cause a recession  To me, this suggests that all the talk about a soft landing are wildly pre-mature. (A lot of this is just cheerleading anyway.) This is especially true because a lot of debt is going to have to roll over at higher rates in the coming months.  But my basic point is that a lot of the commentary following the Fed meeting is just noise. It’s straightforward to understand what they’re doing if you know how they think.

Daily Economic Update: December 14, 2023

The FOMC meeting (recap here) lead to an everything rally as the Dow hit a new record high and the 2Y Treasury yield plunged 20bps and yields were lower across the curve, sending bond prices higher.  The everything rally continues this morning with yields down 8-13bps, the 2Y right around 4.30% and the 10Y under 4% to 3.95%.  Do you recall, not long ago, in late October when both the 2Y and 10Y were over 5%, hard to believe.  There was also lots of speculation on hedge funds facing large margin calls yesterday leading to forced selling of Mag7 stocks as the FOMC meeting hit.

If you're in the soft landing camp, do you have a definition of that term?  If you need one, I find Scott Sumner's description worth a read it's part of his full post here:

"Mark your calendars. Unemployment fell to 3.6% in March 2022. Now it’s 3.7%. If it’s still relatively low in March 2025, and if inflation has fallen close to the Fed’s 2% target, then the US will have achieved its first ever soft landing. Three years of cyclically low unemployment without triggering high inflation is something that has frequently occurred in other countries (say the UK in the early 2000s), but never in the US. No one knows why.

America’s been around for a quarter of a millennium, which is a long time. The early years are not well documented, but I’m pretty sure that we’ve never had a soft landing since at least the Civil War. And yet it seems like Wall Street prognosticators are increasingly of the view that the US will soon achieve a soft landing, our first ever."

On the day ahead, don't worry you have more Central Bankers (the Swiss already left rates unchaned, the ECB and BoE are still to come) along with retail sales data.

In other news, House Republicans voted to authorize an impeachment inquiry into Biden.

In still other news, researchers at the BIS stumbled upon this novel idea "Hedging interest rate risk can reduce firms’ exposure to higher interest rates whenever they hold variable rate debt."  I know it sounds crazy that hedging, which is designed to reduce risk to higher interest rates, will reduce risk to higher interest rates.  I thought it seemed inherent or somewhat definitional in the term "hedging", but I feel much better now knowing that researchers have agreed.

XTOD: Ah cuts in January now nearing a coin flip.  Makes complete sense

XTOD: It’s almost like Jay Powell thinks inflation was reduced by the Fed’s large and sudden increase in interest rates rather than by pandemic recovery, and now that inflation has been lowered by monetary policy he has to ease up slowly to get down to 2% target and not overshoot.

XTOD: Not to beat too much the same drum, but a one-time fiscal blowout leads to inflation that comes from nowhere (if you're Fed) and goes away on its own. Fed can jump in front of parade & help a bit. Until the next fiscal blowout. Model simulation of a fiscal shock:

XTOD: It makes sense to look at the post C-19 inflation as a "bribe" perpetrated by the Fed!

https://marcusnunes.substack.com/p/post-c-19-inflation-the-story-of

XTOD: This is exactly how you embed secularly higher inflation expectations and lose your credibility as an institution.  The asymmetry is the message...Mistake is sort of a loaded term.  If the era of secular low inflation is back it's very clearly the right move.  But if it's not then it will prove to have been a mistake.  IMV the balance of risks means being concerned about embedded inflation still dominates, for me.

XTOD: The remaining above-target inflation is mostly cyclically-driven (i.e. caused by excess aggregate demand pressures). This is why I suspect the “last mile” of returning to 2% inflation is going to be more challenging than the happy-go-lucky disinflation we’ve had so far. https://shorturl.at/aegsE...Chair Powell agrees: “While the broader supply recovery continues, it is not clear how much more will be achieved by additional supply-side improvements. Going forward, it may be that a greater share of the progress in reducing inflation will have to come from tight monetary policy restraining the growth of aggregate demand.” 

XTOD: Forecasts of 3% 10 year in 2024 are farcical.  If Fed funds rest at 3% then 10 year average term premium of 1.1 indicates at 4% that we are there.

XTOD: Test scores are plummeting worldwide.  Why? Probably because of phones.  We should ban phones from the classroom.

XTOD: Buster Posey: SF Giants Lost Shohei Ohtani to Drug, Crime Issues  Buster Posey, now part of the Giants' ownership group, said players and their wives feel uncomfortable about the state of San Francisco.

FOMC Recap: Performance Review Edition

• As expected the FOMC remained on hold for the third straight meeting, leaving the Fed Funds Target range at 5.25% to 5.50% with no changes to QT or other policies.
• The language in the FOMC Statement was less firm on the possibility of additional rate hikes.
• The Dots showed the Fed forecasting a 50bp lower 2023 Core PCE rate relative to estimates from September, as well as a 50bp reduction, from 5.1% to 4.6%, in the Median 2024 Fed Funds dot relative to September.
• Powell indicated the Fed remains fully committed to returning inflation to 2% goal, characterizing the current stance of policy as restrictive and cited the long and variable lags associated with monetary policy.
• Powell indicated that FOMC participants believe we are at the peak of interest rates.
• "Normalization Cuts" were discussed in the press conference, albeit poorly, but Powell acknowledged there was discussion as to when to start cutting rates as inflation cools.
• 2Y yields were down 20bps following the FOMC Statement and fell a further 10bps as Powell spoke, breaching 4.45%.

Every year most of us are forced to write down our professional goals, usually cascading down from company and team goals to you as the individual.  Now is that time of year where many organizations are conducting their performance reviews.  With that in mind, there is no better time than now to review the FOMC's performance for this year.

As is the case with any good performance appraisal, you should start with some objective criteria against which you are measuring performance.  In the case of the FOMC, Congress specified the goals of the Fed as: (1) maximum employment, (2) stable prices, the so called "dual mandate", but there is an often forgotten third mandate in the amended Federal Reserve Act of 1977 and that is (3) moderate long-term interest rates.

Now for the appraisal:

On Maximum Employment - Exceeds Expectations:  we came into 2023 with forecast for recessions which would have included job losses.  The unemployment rate remains below 4% and though there may be some signs of labor market weakness, it's hard to say that the jobs picture isn't more robust than what most expected at the start of the year.

On Inflation - Needs Improvement/Below Expectations - you can argue with me until you are blue in the face that the Fed deserves a better grade here given the rapid disinflation seen in PCE and CPI data, but perhaps an example will sway you.  Assume that you, as an employee, start the year with your boss telling you that the number of errors (maybe it's trading errors, maybe it's quality defects) you made was way to high last year and that the number of errors to be tolerated was 2.  Your boss gave you a second chance last year because they knew there were some extenuating circumstances and you hadn't made too many of these types of errors recently, so your boss let you overshoot the error quota for a while (your boss even allowed you to change your the policy goal to "FAIT"), but said they weren't going to tolerate errors above 2 forever.  You go into 2023 knowing you have to bring the level of errors back to 2, so you continue to be aggressive with your policies, they seem to be working, but your errors are still double what you were told you needed to achieve.  Well, that's the Fed, they have that 2% inflation goal, but we're sitting here today a year later and we're still nearly double that rate.  You wouldn't get away with that in your performance review, would you?  You can tell your boss that everyone thinks your error rate will come down in the future, expectations are that they will, but would your boss keep giving you a pass?

On Moderate Long-Term Interest Rates - Meets Expectations - in the Federal Reserve's publication, "The Fed Explained: What the Central Bank Does" it states: ".. long-term interest rates remain moderate in a stable economy with low expected inflation...".  This third mandate is never really mentioned because it seems to be dependent upon the first two topics.  Certainly yields are higher than some people expected as the start of the year and they seem more moderate than they were when most of the curve was very low across the curve in the 2010's. But with so much uncertainty around things like R* and U* it's hard to do better than "meets" here.  I think the Fed did a better job on meeting or exceeding "volatile" long-term interest rates this year than they did on meeting the definition of "moderate". Arguably the rating could be worse as the Fed seemed to be relying upon tightening of financial conditions to do some work for them, with that tightening coming from higher long-term rates, and that seems to be going the wrong way as financial conditions have eased into year end.

Most reviews also include a section where the manager provides some narrative assessment of how things are going for the employee being reviewed.  Here's mine for the Fed:

While progress has been made towards your goals, it's unclear how much of the success is attributable to your performance. You haven't done a great job of explaining your reaction function and often the market discounts what you are saying and believes you'll abandon your goals early if they complain loud enough.  What is your reaction function? Are there rules you look at and follow to help you achieve your goals? 

Your colleagues noted you did a lot of talking and many times that talking was distracting. We value a high "sit-next-to" factor here and it seems you can cause a lot of people anxiety. It seems like you spend most of your day just talking, when do you get work done? Oh, I see you think your job is mostly talking, propaganda, and suasion. We'll take this under consideration in 2024 goal setting.

Your track record of forecasting is not good. In 2024 maybe you should focus on the concept of "Margin Of Safety".  In the words of Benjamin Graham in his classic book "The Intelligent Investor", Margin Of Safety is "in essence, that of rendering unnecessary an accurate forecast of the future".  I know you're trying to balance both risk to unemployment and inflation, but look at where you need improvement, perhaps you might need to apply the Margin Of Safety concept to your inflation mandate.

Lastly, your performance was mixed on supervising your direct reports. Remember how several banks failed?  You did a nice job of limiting the impact, but some find it troubling how this happened in the first place and how you seemed to miss the build up of economic and financial risk in years prior as well. 

As we head into 2024, as you stay employed in your job of steering the most important economy in the world, I will remind you of some advice from the late, great Charlie Munger,  "Nobody survives open heart surgery better than the guy who didn't need the procedure in the first place."  You say you'd rather be Volcker than Burns, your goal for 2024 is to get inflation back to 2%.  Let's try to get there without breaking something that will require open heart surgery.

 

 

Daily Economic Update: December 13, 2023

Another FOMC decision day is upon us.  Check back around the 3pm hour for my summary and related commentary.  I'll be giving the Fed their annual performance review.  Yields down slightly to start the day with the 2Y at 4.73% and the 10Y at 4.19%.  Yesterday's CPI showed inflation slightly higher than expected, but economist will debate the continued stickiness of shelter related inflation while they seem confident on continued goods disinflation.  The 30Y treasury auction seemed well received.

This morning's UK GDP data showed economic contraction and EU industrial production data looked weak.  I won't comment on Argentina, but seems like newly elected President Milei is starting his radical overhaul of the economy.   

On the day ahead we get PPI data ahead of the 2PM FOMC decision which includes the Summary of Economic Projections (aka the Dots).    Will Powell push back on the easing of financial conditions? How many cuts is the FOMC dot plot showing?  We'll soon see.

XTOD: Core PCE is 4.0% and markets party like it's 1999.

XTOD: H4L baby

XTOD: I realize some of my views might seem contradictory so let me try to clarify a little:

-I expect very gradual weakening in the labor market and don't think the Fed should cut until it's clear the risk a resurgence of inflation is behind us

-While I think the Fed shouldn't cut, I think they will, because they have a significant institutional bias toward inflation (and political bias as well) (this is longer term - I Don't expect signals of cuts tomorrow, quite the contrary)

-I think the decline in inflation this year is quite brittle and vulnerable to a reacceleration if wages pick back up, which will happen if the labor market doesn't get a little more slack in it

-The Treasury is conducting monetary policy and using its reduction in coupon issuance to interdict Fed QT

-There are upside risks to fiscal expenditures if the side deals from the FRA negotiations in the spring get implemented, i.e. if the House gets railroaded by the Senate.  The Biden Admin continues as well to come up with new and creative ways of inflating the costs of the IRA to get more fiscal $ out the door as fast as possible

-That easing of policy from Treasury (and accompanying loosening in fincon) continues to run the risk of reacceleraiton in growth and thus inflation

-If the Fed hadn't made the critical errors it did in '21/'22, it would be a no-brainer to have cut six months ago.  But history matters, and affects the risk of future inflation, and we are where we are

XTOD: Job satisfaction in the US is at a 35-year-high.   In 2022, over 62% said they were of people said they were satisfied with their jobs, up from < 45% in 2010.   Big gains come from work/life balance and the performance review process.

XTOD: I’ve seen what you describe. Growing aggressively to $100mm, and all of the sudden growth slows. It’s really painful.  

In my experience, the number one reason this happens is fear of change. What ever set of variables led to the product/market fit that took you to $100mm become sacrosanct. These “sacred cows” become limiting constraints which hold you stuck on a local maximum. Growth goes from 30% to 20% then to 11% or even 8%. And product tweaks or pricing tweaks that you have discussed for over 5 years just can’t find their way to the market. Everyone is afraid those changes will hurt things. But you are already decaying. 

Change is scary. So is flat-lining.