A Boom Of Hysteria
It’s always been easy to lose perspective. In the modern social media age, maybe it has become even easier. Conventional wisdom rarely seems to get challenged anymore, particularly given the assignment of “what everybody knows.” Big Data is, for example, predicated on a very good theory, the wisdom of crowds. It hasn’t yet lived up to its expectations because as hard as it may be to believe defining the “crowd” isn’t easy at all.
Right now, the big theme is the global inflationary boom. Like some ancient parable, inflation is now blamed for everything good and bad. Market prices are especially susceptible, so that even the rocky stock market over the past few weeks is attributed to the rising yields fearing a Federal Reserve about to become aggressive. It led to one of the more absurd moments in recent history (which is saying something):
In the “old days,” when good news was reported, the Stock Market would go up. Today, when good news is reported, the Stock Market goes down. Big mistake, and we have so much good (great) news about the economy!
— Donald J. Trump (@realDonaldTrump) February 7, 2018
Campaigning against things like hollow stock prices and the “fake” unemployment rate, correctly in my view, the President has now completely embraced them. It’s understandable in the very same way the previous administration trotted out those same measuring devices to cover up a far more undesirable reality.
When looking at something like eurodollar futures, perspective might not be so easy of late. Any recent chart seemingly confirms the narrative. Eurodollar futures prices have sold off steadily since September 5. It does look like one of the most important and deepest markets in the world is pricing the upcoming boom.
What eurodollar futures tell us, after all, is the market view of future short-term interest rates; money rates. Tied directly to LIBOR (which isn’t going away), these markets make judgments as to what the Fed thinks it will do and why it might or might not. The chart above appears to be consistent with incoming Jay Powell’s more favorable assessments.
It’s really not, though. Not even close. An inflationary boom would look nothing like the chart you see above. The chart below easily explains why.
When the June 2018 contract began trading at one of the more auspicious moments of the past ten or eleven years, in late June 2008 it was priced for 3-month LIBOR to get back to normal despite all that had happened; and was about to. It’s not a direct one-to-one (considering factors like expected interest rates and time values), but in loose interpretation of a futures price around 94.00 it was then consistent with the idea of the pre-August 2007 futures curve: 3M LIBOR ~6%.
The June 18’s will be coming off the board in just a few months. The difference between now and last September is whether 3M LIBOR might be ~1.5% or now ~2.25%. That’s neither inflation nor a boom.
It is instead a variation in outlook on just how bad things are. Not whether they are about to become good, but whether we are stuck like 2016 or relatively better like 2014; not close to a 2011 scenario and so far away from 2007 that it doesn’t even merit discussion.
The futures curve itself is not appreciably different from the one posted on December 17, 2008, during the middle of the worst monetary panic of our lifetimes. The Fed has hiked rates, of course, up to five at this point, and expectations are that they will get just a few more in before there’s a ceiling. It’s this prospective ceiling that is the whole issue top to bottom.
Even the more optimistic of the Fed’s members still sees no more than 3% altitude for the stopping point of monetary policy. The futures market wholeheartedly concurs. The only way that can happen, this ceiling, is if economic growth and inflation with it remain at best lackluster.
What’s really missing, however, is any appreciation of the downside risks that remain substantial. A 3% max really reflects more so a softening of downside risks relative to 2014-16; which is to say not really much improvement at all given the global downturn that appeared during that period. The “boom” scenario is totally at odds with these curves and eurodollar futures prices since it is one that would exhibit little or no downside.
What’s really happening is something altogether different, and it has everything to do with Trump’s current occupation (leaving us with the stinging irony of his participation in the narrative). The political winds shifted in 2016 because, quite frankly, these prices and curves were right about the unstable conditions brought about by prolonged stagnation. As I wrote last week:
But what are those frustrations? Bernanke makes plain that they are, in his view, illegitimate. He follows up on mere observation of this political shockwave by editorializing in his own biases, “I’m hardly the first to observe that Trump’s election sends an important message, which I’ve summarized this evening as: sometimes, growth is not enough.” He even goes so far as to call Trump’s vision of the economy, the one that got him elected, “dystopian.”
There it is; the economy is great but, somehow, we got Trump anyway.
The desire to “prove” that last sentence is now overwhelming – lest it lead to the next Trump or Brexit (Italy?). Therefore, even the slightest change in the “right” direction is blown way out of proportion, and then extrapolated into “irrefutable” proof of the narrative. That corroboration, however, is in truth quite easily contested and often with just a little perspective, such is the desperation for it to be otherwise.
What got Trump elected, and made Brexit a reality, is that this economy is actually dystopian and people around the world are fed up. Their ire is directed at those like Bernanke who refuse to accept utter failure and the dangerous consequences derived directly from it. Rather than argue even slightly against this view, market prices in 2018 amidst a boom of hysteria still agree.