Good Morning.. WOW what a turn around in stocks and rather suspiciously, the turn came quite some time before the Fed announced it would actively start buying Corp Bonds today. But this was all part of a well laid out plan by the Fed but many felt with spreads so tight already, the need for more than just a threat to buy was enough. But stocks were looking very vulnerable and I believe the timing of this was no coincidence and sends a clear message to investors that the Fed is still there for them. Stocks raced higher and bonds fell as risk on was embraced yet again on the back of central bank actions. On top of this we heard sources suggest the US administration is looking at another $1trn of stimulus aimed at infrastructure programmes. If you ever wanted to see what embracing MMT looks like then look no further than the US. This is no longer a theory it is a fact. This may carry huge implications which I have covered below. I think S&P maybe on its way back to the upper range at 3250 and the USD is probably headed back down. We may get some negative virus news but the Fed has made it clear that the dip is secure. It’s early days but this could be a pretty large game changer. Powell testifies in front of the Senate today and we also have US Retail Sales, IP and Cap U later. Could be an interesting one.
Keep the Faith..
Details 16/06/20
After the early capitulation, stocks astonish and rally 130 pips in S&P. We need to be aware of the impact of embracing MMT.
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The sell-off from the weekend news had all the hallmarks of capitulation and at one point it looked like we may have a serious sell-off developing but look at the high S&P made yesterday; an astonishing rally which started just after European markets opened. Did someone know what was coming? It was boosted later in the session by news that Fed were to begin buying broad, diversified portfolio of Corp Bonds to support market liquidity and availability of credit for large employers. This was expected at some point as the Fed had said it would get involved but the spreads in Corp Bonds were actually quite tight already. That news sent the S&P to the highs and the Fed is again showings its teeth any time stocks look shaky. S&P 4hour chart below. This brought our EURAUD position close to its stop at 1.6260 and I am pretty sure that will get done now but the EUR is recovering and should now push on above 1.1500 in my view.
EURGP is a little lower after some soothing words from Boris but I will keep my stop at 8900 just in case. This morning I see Bunds are down 46 tics and US yields back up.
We get to hear what Powell has to say about this latest policy action later today when he testifies in front of the Senate. It seems that the Fed is committed to keeping stocks up and again it shows that the Fed is prepared to be the backstop; they made quite a statement yesterday and I think this changes a lot which I will cover later in this piece. It makes a fool of economics as these are not free markets and is eradicating any sense of risk. So what? It seems to me that we are going to have to throw out all the rule books and begin with a totally different strategy. One of the biggest changes to the system and how it will operate from now (and may never be the same again) is the embracing of Modern Monetary Theory. In the case of the US, this is not just a theory, as it is in full swing already. Japan announced more spending too.
The Fed sent a very clear message here yesterday and possibly because there were some doubters about whether they would actually back up the verbal support for ETF and corporate bond buying. The Fed’s announcement led to a nearly 10% decline in U.S. investment-grade & high-yield bond spreads from already relatively tight levels, based on credit-default swaps. This was an aggressive stance and a clear message to equity investors that the green light is back on. The Powell put is firmly in place. The timing of this, with stocks looking so shaky is no coincidence in my mind.
With stocks turning back up and with the full support of the Fed behind them, I guess we can get back to selling USD’s. I think some real changes are afoot here and this signal from the Fed could not be clearer and Trump must be very proud of Powell today as he has delivered everything Trump ordered a while back with zero rates and huge and unlimited liquidity support for his beloved stock market. On top of this, it was announced that the administration is looking at ANOTHER $1trln of fiscal stimulus which brings me nicely back to MMT. It is extremely important that we all understand just what this is and what it means.
One of the big game changers is that the central banks, mandate or not (not in most cases), are monetising debt, as can clearly be seen at the Fed, BoE and ECB (among others). This has huge implications going forwards as running large deficits does not matter if all the issuance can be taken up by your own central bank. In effect, as long as rates stay very low, debt no longer is an issue; so print it and spend it and hope that when things get better, you can reverse it all. Whether or not the good times will arrive or whether the money will be taken out of the system is irrelevant as the markets are focused on the next 2-5years and not the future when all these officials will be long gone. So we are at a point where populist governments feel that rather than print money and give it to the banks for lending, they can target the money more directly towards the consumer via tax cuts, benefits and infrastructure programmes. If we took this to the extreme, one could argue that enough could be printed to take the place of income tax altogether; who would care? The markets can’t react anyway as they are being socialised by central banks to an extreme where bond markets tell us very little of what is on the horizon and the belief is that stocks will rally and keep the economy from collapsing. Nowhere has this been embraced more than in the US and to some degree Japan. S&P is now likely to test its upper range level at 3250 again and probably higher.
Normally, when we see evidence of falling tax receipts and larger deficits, we worry about how the Treasury will find buyers for the massive issuance coming down the pipe and bonds reflect this concern but not anymore. The Monthly Treasury Statement for May showed federal income tax receipts falling a record 33% from the comparable period one year ago. The decline in May tax receipts exceeds the 30% decline in April. Monthly tax (gross) receipts have been reported since 1973 and April and May declines are the largest on record. The scale of the decline in tax receipts is nearly three times the decline in reported household and payroll employment. The unprecedented gap raises questions about the accuracy of the April and May employment reports. So what? Print more money and fill the gap.
I know I sound flippant but this is a reality staring us in the face and MMT is being not only discussed at many central banks but now actively embraced. I showed this chart yesterday.
But it is not only the Fed. Wondering how the UK has negative bond yields when they issued £9 billion of them last week? Well the Bank of England bought £13.5 billion. There is a danger that this distorts everything we have come to understand about trading markets. It probably doesn’t matter that the better unemployment data from the US was completely wrong; nothing matters as the Treasury can seemingly spend whatever the Fed is prepared to print and the Fed will buy the issuance back from them to keep the ship afloat. Sounds like one giant Ponzi scheme to me which, as all Ponzi schemes do, will end in tears but that could be years away as the Fed has found more road to kick this damaged can down. Just a point of note here on the BLS unemployment data which now certainly seems to have been wrong by some margin. Household employment data is based on a sample of 60,000 households out of a total household population of 125 million; but Federal tax receipts are unambiguous. They reflect withheld income taxes taken directly from 30 million business establishments employing over 150 million workers before the pandemic. So what, the Fed has our backs?
You can kick and scream about the dangers of MMT but if the central banks and governments agree to use it then tough; get over it, as it will be a while until you reap any benefits from fighting it. I guess what I am saying here is that we may be at a point where this shocking statement: “deficits don’t matter” begins to take hold. Governments are getting used to buying votes and for that they need low taxation and higher benefits for the needy but at the same time, monetary policies are keeping growth low along with tax receipts. That begs the questions about exactly when the good times return. We know that even central banks have real concerns about how useful to the broad economy QE is with rates already at zero or negative and so, rather than just blindly follow the BoJ and keep doing the same, they have looked around for an alternative and found it in MMT. The Fed told us that they have unlimited resources; that was the turning point where they almost publicly admitted they were embracing the MMT model. They can print as much as they see fit.
Voters want action from their governments on topics like education, policing, social welfare, climate and many other expensive issues but how does a government pay for it when growth is so sluggish and tax receipts so low? Print money is the only way; it works for wars so why not the broad economy; so goes the thinking. Where are the bond vigilantes and the cries from opposition parties regarding debt sustainability; all gone and balanced budgets are as popular as doing your tax return. Governments and Monarchy’s have been run on taxation since the dawn of time, as governments have no money of their own to spend but since the gold standard was eradicated by Nixon in the 1970’s, that was no longer the case as they shipped in a money printer and it just kept humming along, financing wars and arms races around the globe. That printer is now focused on domestic economies. For as far as I can see, this could be a new paradigm and investors may need to understand the significance of this. If a stock market crash is a threat to the broad economy then the Fed will fight it tooth and nail, as can be seen again this week. What are the implications of governments NOT being financially restrained? Think about that for a while. Whether the MMT policy is right or wrong is not the issue here as it is clear that MMT is a reality. As investors, we now need to consider what the hell it all means for our portfolios over the next 2-5 years.
On the fiscal spending issue, a preliminary version is being prepared by the Department of Transportation which would reserve most of the money for traditional infrastructure work, like roads and bridges, but would also set aside funds for 5G wireless infrastructure and rural broadband, the people said. This is a better use of the money and many parts of US infrastructure certainly need this cash and more; but the beneficiaries of the Fed policies have been the wealthy again. The US has been screaming for infrastructure projects and yet Wall St has trumped (excuse the pun) the needs of Main St for years. Now that the US government feels it can spend what it likes, some good may start to come from this but is there such a thing as a “free lunch” and will this all come tumbling down upon us; who cares as most of the people that allow this to happen may be out of office and retired on massive pensions made secure by soaring stock markets. They won’t care and will probably have made their mark on history. But we may be stealing our children’s future here.
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Strategy:
Macro:.
Long EURGBP @.8978 added @ .8940. Stop at .8900
Long EUR @ 1.1360.. Stop at 1.1200ish. Added at 1.1285.
Long EURAUD @ 1.6260 added at 1.6500. Stop now at 1.6260.
Brought to you by Maurice Pomery, Strategic Alpha Limited.
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