Investors Losing Faith In Flippant Fed

Investors Losing Faith In Flippant Fed - Fed birdbrain cartoon 06.15.2015


For those of you keeping score, this year the Fed has shocked markets pivoting from hawkish to dovish a dizzying number of times. Here's the rundown:


Hawkish, December

Dovish, March

Hawkish, May

Dovish, June


Investors Losing Faith In Flippant Fed - Hawk dove cartoon 06.06.2016


Investors are justifiably frazzled and have scrambled to keep up with all the flip-flopping. When Yellen went hawkish in May, during a speech at Harvard University, she remarked that investors should "probably" expect a rate hike in the coming months.


Taking the Fed chair at her word, investors thought there was a greater than 50% chance the Fed would hike rates in July (see below). 


Today, markets think that possibility is essentially zero.


Click image to enlarge

Investors Losing Faith In Flippant Fed - rate hike prob 6 16


What's happening here?


Well, the Fed revised its dot plot (which shows each participant's expectations for future rate hikes). Interestingly, six Fed officials now see just one rate hike in 2016 versus just one participant suggesting as much in March. 


Investors Losing Faith In Flippant Fed - fed dot plog


It was quite the about-face for most FOMC members. As we noted earlier this week, San Francisco Fed head John Williams was publically calling for up to five rate hikes at the outset of this year. 


Then reality set in.


Here's what central planners have failed to fix:



(To name a few...)


And yet, here's the lead in yesterday's FOMC statement:


"Information received since the Federal Open Market Committee met in April indicates that the pace of improvement in the labor market has slowed while growth in economic activity appears to have picked up."


That's simply not true which is why we'll reiterate once again...


Fade Rosy Fed Forecasts


Takeaway: USAF changes to its TACAIR portfolio will result in a 20% reduction in annual F35 deliveries in the 2020s.

Like a mighty elk pursued by wolves, the world’s largest defense program, the Joint Strike Fighter, is being stalked by a series of programs that individually are not threatening but as a pack can mortally wound the program.


Tomorrow, Friday, June 17th at 11:00 EDT, Hedgeye’s LtGen “Emo” Gardner will provide investors the context for the first ever appearance of the F-35 at the world’s most important aerospace show, the Farnborough International Airshow, July 11-17. 


He will cover the current US TacAir landscape, changes in requirements being made by the F35's largest customer and the impacts on the $1.4T F35 program and its contractors.


Participating Dialing Instructions

Toll Free:


UK: 0

Confirmation Number: 13639094

Materials: CLICK HERE

Drake: Why The Central Planning #BeliefSystem Is Breaking Down



In this excerpt from The Macro Show, Hedgeye Senior Macro analyst Christian Drake gives subscribers a brief tutorial on one of our top three Macro Themes.

the macro show

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Hosted by Hedgeye CEO Keith McCullough at 9:00am ET, this special online broadcast offers smart investors and traders of all stripes the sharpest insights and clearest market analysis available on Wall Street.

Call Invite with Top Washington Political Strategist Scott Reed

Hedgeye Potomac is hosting a call with one of Washington’s top political strategists, Scott Reed, to share his insights on the presidential election, the upcoming Democratic and Republican conventions, and outlook on the Senate and House races this fall.


The call will take place on Tuesday, June 21st at 11am ET with prepared remarks from Reed followed by Q&A.




Scott Reed is the senior political strategist at the U.S. Chamber of Commerce. He is responsible for overseeing the Chamber’s federal voter education program. Reed created and implemented the blueprint for that strategy to help recruit business-friendly candidates, overseeing traditional and digital advertising campaigns, and identifying credible messengers to showcase the importance of the free enterprise system.


Reed was campaign manager for Bob Dole’s 1996 presidential campaign. He oversaw the national campaign, which included political strategy, policy development, communications, and advertising during the GOP primary and the general election. In addition, he directed preparations for the 1996 Republican National Convention in San Diego and the vice presidential selection process of Jack Kemp. In 1993, Reed was appointed executive director of the Republican National Committee. He served as chief operating officer of the GOP during the historic elections in 1993 and 1994 when the Republicans gained control of both the House and the Senate for the first time in more than 40 years. During the Bush administration, Reed served as chief of staff to Secretary Jack Kemp at the Department of Housing and Urban Development. He directed personnel, political, and policy matters, employing a long-term empowerment and privatization program. 




Toll Free:


UK: 0

Confirmation Number: 13638941

NEWSFLASH: The Central Planning #BeliefSystem Is Breaking Down

Takeaway: The dollar is strengthening & U.S. equities are selling off after Yellen & Co went dovish yesterday. The #BeliefSystem is breaking down.

NEWSFLASH: The Central Planning #BeliefSystem Is Breaking Down - central bank cartoon 04.22.2016


It's happening.


Make no mistake. The #BeliefSystem that central planners can arrest economic gravity is breaking down. That's what we said in our 80-slide 2Q Macro Themes deck, released in April, and that's precisely what's playing out in macro markets today.


Despite dovish Fed rhetoric yesterday, the U.S. dollar is strengthening and equity markets are selling off, in direct opposition to Yellen & Co's intent.



Meanwhile, policymakers at the Bank of Japan have watched the Yen strengthen today too, with the JPYUSD cross hitting year-to-date highs, and the Nikkei self-destructing (it lost 3% today alone).


Keep in mind that Yen strength came after the BOJ announced today that it will continue to conduct open market operations at an annual pace of 80 trillion yen ($760 billion) and is maintaining its negative interest rate policy.



Here's additional analysis from Hedgeye CEO Keith McCullough in a note sent to subscribers earlier today:


"They’re really out on the central banking #BeliefSystem in Japan – on the heels of reiterating 80T (T = Trillion Yen), the Yen ramped +1.7% (vs USD) to yet another YTD high, and the Nikkei continued to crash, -3.1% overnight (-7.2% on the week) and -26.1% from last year’s cycle peak in Global Equities (July)"


Take a look at a chart of the Yen:



And here's the Nikkei crash. Not good...



Need to understand the #BeliefSystem breakdown fast?


Here's the full description from our 2Q Macro Themes deck:


Click to enlarge

NEWSFLASH: The Central Planning #BeliefSystem Is Breaking Down - q2 macro themes


We're reiterating that call this morning.


We'll leave you with this brief message from CEO Keith McCullough:



More to come.



NEWSFLASH: The Central Planning #BeliefSystem Is Breaking Down - central banker house of cards

Hedgeye Guest Contributor | Thornton: My Scary Chart Revisited

Editor's Note: Below is a Hedgeye Guest Contributor research note written by Dr. Daniel Thornton. During his 33-year career at the St. Louis Fed, Thornton served as vice president and economic advisor. He currently runs D.L. Thornton Economics, an economic research consultancy. 


A brief note on our contributor policy. While this column does not necessarily reflect the opinion of Hedgeye, suffice to say, more often than not we concur with our contributors. In the piece below, Thornton asks and answers a key question:


"Are the increases in equity and house prices since the end of the last recession (June 2009) due to economic fundamentals and are therefore sustainable, or are they excessive and, therefore, not sustainable?"


Hedgeye Guest Contributor | Thornton: My Scary Chart Revisited - Bubble bath 9.9.14


Two readers, an old friend and a friend and former colleague, suggested that the trend line in my graph might be somewhat less scary if I had estimated it over the entire sample rather than the period 1973Q1 to 1994Q4. One of the two also asked why I calculated the ratio using disposable income rather than GDP. Another reader asked whether the most recent rise in household net worth could be due to an increase in personal saving. I decided I should look into these issues. Here’s what I found.


Graph 1 below is the scary graph I presented in My Scary Chart, with a trend line estimated over theentire sample added. The new trend line (red) does suggest that the and real estate bubbles were slightly smaller relative to trend. However, there is no meaningful difference for the recent rise in household net worth. I did not choose the 73-94 period deliberately to make things look bad. I chose it because 1973 is about when the series stopped trending down and early 1995 is the when the NASDAQ and other equity price indices began rising more rapidly.


Hedgeye Guest Contributor | Thornton: My Scary Chart Revisited - thornton my scary


Graph 2 shows the ratio (not in percentage) of household net worth to GDP. The graph is very similar to Graph 1, except the ratio is necessarily smaller because disposable income is much smaller than GDP. Relative to Graph 1, the trend line over the 73-94 period makes things look even more scary than Graph 1. The trend line over the entire sample makes things look less scary, but things still look pretty scary.


These graphs are more scary during the recent period when one realizes that the large increase in net worth occurred during a period of slow output growth: The economy grew at a 2.1% rate since 2010Q1, much slower than the 3.1% rate during the period 73- 94; a period marked by four recessions, two of which were both long and deep.


Hedgeye Guest Contributor | Thornton: My Scary Chart Revisited - thornton my scary 2


The most recent period has also been marked by anemic inflation; 1.5% compared with 5.2% for the 73-94 period (the PCE index less food and energy). In short, while the economy and inflation have been muddling along, equity and house prices have been booming—there’s no lack of inflation in house or equity prices.


Let’s see whether it is likely that the recent rise in household net worth relative to disposable income is due to an increase in saving. Graph 3 shows personal saving as a percent of disposable income from 1959Q1 to 2015Q4. The percentage increased from 1959 to the mid-1970s. It peaked at 15% in 1975Q2.


From the mid-1970s to the beginning of the financial crisis, the saving rate declined pretty steadily to about 2.6%. The saving rate then rose to a peak of 9.2% in 2012 Q4 only to fall precipitously to about 5.2% where it remains. The increase in saving since the end of the financial crisis is relatively small and short lived. Hence, it seems unlikely that it resulted in an accumulation of net worth sufficient to account for the 100 percentage point increase in net worth.


Hedgeye Guest Contributor | Thornton: My Scary Chart Revisited - thornton my scary 3


Even more compelling is the fact that the saving rate has decline since the mid-1970s while household net worth has increased. The negative relationship between the personal saving rate and household net worth as a percent of disposable income is consistent with households becoming increasingly leveraged—they borrowed more and saved less. Americans aren’t saving too much—they’re saving too little.


So we’ve learned that no matter how you slice it or dice it, my scary graph is still pretty scary. We know that it is extremely unlikely that the recent rise in household net worth, or for that matter, the previous two rises, were not due to households saving more. We also know what happened the last two times that household net worth rose to such heights. We also know that the recent rise in net worth is largely due to large increases in equity and house prices.


So the question is: Are the increases in equity and house prices since the end of the last recession (June 2009) due to economic fundamentals and are therefore sustainable, or are they excessive and, therefore, not sustainable? Several people have suggested that equity prices do not appear to be “out of line” based on PE ratios or other criterion.


When trying to decide which of these is correct, it is useful to keep in mind that there were people saying the same things in October 1929 and October 1987, and February 2000. Indeed, most were betting that stocks were not overvalued right up to the time when the market crashed.


Likewise, most were betting that subprime loans were not “junk” right up to the time when they couldn’t sell them. The few who were betting they were junk did very well. The truth is that no one knows for sure.


But I believe the most recent rise in net worth is also unsustainable. Here are some reasons why in no particular order:


  1. House prices have been rising during a period when economic growth is weak, inflation is low, interest rates are ridiculously low, and the Fed’s theoretically flawed QE policy (see Requiem for QE) helped keep the housing stock from adjusting completely.
  2. The Fed’s zero interest rate policy has distorted the allocation of economic resources and incentivized excessive risk taking.
  3. The rise in net worth is being driven by a rise in asset prices, not by an increase in real capital. I see no way for the net worth to remain at its current level, let alone increase beyond this level.


Conclusion: Household net worth as a percent of disposable income will fall back closer to, if not below, trend. The question is: Will it fall precipitously as it did in 2000 and 2007, or will it decline slowly over time?

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