The End of the Beginning
October 6, 2023·Money
As I wrote last week, this trade (unmoored longer-dated interest rates) has been discovered. Mainstream market missionaries like Jamie Dimon and Larry Fink are talking about (much) higher interest rates, and if CNBC doesn’t have a regular “Bond Market in Crisis” segment yet, they certainly will soon. And as I wrote last week, this puts both a floor and a ceiling on where interest rates can go in response to ‘ordinary course’ macroeconomic data like last week’s inflation readings (soft! 10-yr to 4.70) and today’s jobs report (hard! 10-yr to 4.80) – a floor because big narrative guns like Fink and Dimon say it’s going higher, and a ceiling because everyone is now paying attention to the trade and complacency is reduced.
Adding to this range-bound lull before (IMO) new narrative catalysts take the 10-yr on a leg higher still is the emergence this week of a staple narrative archetype for explaining market moves – Supply and DemandTM.
What you saw this week was an enormous media focus on lots of supply (the Fed is selling bonds with QT! Treasury is issuing bonds to fund the gov’t!) and little demand (China won’t buy our bonds! Japan won’t buy our bonds!). As with any good narrative, this story has the advantage of being true, at least on the supply side – the Fed IS selling and Treasury IS issuing. The data on the demand side is less clear cut. But regardless, supply-and-demand is not WHY rates have gone up. Is it part of the picture? Sure! But QT has been going on for quite a while now, and there’s nothing waaay out of the ordinary on Treasury issuance (a little elevated, but nothing crazy). Ditto on foreign purchases. The marginal impact of supply-and-demand is supportive of higher rates but not causal for higher rates, or at least not the pace of higher rates that we’ve experienced.
I say that Supply and DemandTM as a narrative archetype is a staple because it is always trotted out to describe a market move that no one has a better answer for. You see it particularly in commodities markets, but even in equity markets you see it (Risk Parity is buying! Risk Parity is selling!) to provide an easy-to-digest why for markets that have wrongfooted mainstream market participants.
And I say that Supply and DemandTM as a narrative archetype adds to this range-bound lull for two reasons. First, there’s always a potential for a deus ex machina solution if the ‘problem’ is limited supply (The Fed can stop QT and squeeze the shorts!). Second, supply and demand is by its nature a range-bound, system-in-equilibrium phenomenon. All of the other narrative catalysts I’ve been describing have a one-way arrow, but Supply and DemandTM is a constant back and forth.
What’s next? I think everyone should be paying attention to the (largely) failed yen intervention by the Bank of Japan earlier this week, where the half-life for their yen support was about 24 hours. If the BOJ draws a line in the sand at 149.80 or 150.00 or whatever, then I think they will be severely tested and I think they will lose without ‘tweaking’ YCC higher … again. As I wrote two months ago, the moment you see the first WSJ story comparing the Bank of Japan today to the Bank of England in 1992, that is a major new catalyst for another leg higher in global long rates.
Comments
“Interest rates are financial gravity” just may be the best line I’ve heard in nearly 40 years in this business.
If push came to shove and Powell were to dig in his heels on his aversion to negative rates, what could the Fed do about it? Start to liquidate some of the balance sheet? That would seem pretty weird, during the End Times and all. I think it’s probably all talk, and this will just erode the credibility of the Fed a little bit more.
I’ve believed for a while that the widening gyre is almost entirely explained as a consequence of a shrinking pie. Shrinking for the rubes, anyway, as the elites scoop up more and more for themselves. Wealth inequality has the first order effect of depriving the rubes of resources they would need to be a real threat, but also the second order widening gyre/shrinking pie that keeps them at each others’ throats to hamper their ability to use what resources they do have to effect change. Nonlinear positive feedback (to WI) makes for some kind of singularity in the future, and probably not the cool VR kind.
I prefer the phrase written as “THEY are all MMTers now”
and they’re jerks for doing it
I have a pet theory that we need a Big Project to arrest the widening gyre. Ideally one that is not a revolution or a big war. I like to poke fun at Elon Musk as much as the next guy, but SpaceX in particular is inspiring and aspirational to me.
I am so gonna steal that.
First of all this was a fantastic read!
As far as inflation is concerned I’ll share a story. In 2008 our manager came in my office and asked “ how close are we the bottom?” My reply was this — “ I don’t know but I will tell you exactly when we will hit the bottom, when I longer have the energy or the will to try to talk panicked investors from selling all of their positions.”
I was right on both counts , that day came, and it was the bottom.
My feeling on inflation is the same , once we all become convinced that this time somethings different and inflation is not coming that is when it will come. I think we have inflation now in everything but the inflation number, but I am talking about inflation that cannot be ignored or ?♂️.
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