The guest commentary below was written by Jesse Felder of The Felder Report.
Repo Man – this may be the title Jerome Powell is labeled with after what has gone on over the past month or so. Every Fed Chair is remembered for something. Volcker is remembered for breaking the back of inflation. Greenspan is remembered as a champion of deregulation and for his indecipherable speeches. Bernanke and Yellen are remembered as the Lords of QE.
The Fed recently started buying treasuries again and in massive scale all the while insisting it’s not a return to quantitative easing. I agree that this is not QE which was implemented in an attempt to lower long-term borrowing costs to spur debt creation. Because these new programs are focused at the short-end it’s hard to consider them stimulative in the same sense.
What the Fed has been doing over the past month is really what it was created to do: act as the lender of last resort. When banks are unwilling to lend to each other, the Fed should step in and unclog the pipes of the financial system.
And this is really what they are doing in the repo market.
However, it’s important to point out that the trouble that the money markets now find themselves in is a direct byproduct of QE. Buying up risk-free debt has created two things. First, it created the “shadow banking” phenomenon. Investors, like pension funds and insurers and all sorts of other non-bank entities, who could no longer get decent risk-free returns were forced to get more aggressive and lend to riskier credits.
Pushing long rates lower also encouraged these riskier credits to borrow like never before.
It’s certainly possible that what is bothering the money markets today is a disturbance in the “shadow banking” sector of the finance economy.
We are certainly starting to see some signs of distress in the lower-rates segments of the credit markets.
But the second byproduct of QE is a general disdain for fiscal austerity. By keeping interest rates lower for longer across the entire yield curve, the Fed has encouraged lawmakers to conclude that there is no such thing as a problematic level of debt. The bond vigilantes are dead and so the government feels free to grow the debt ad infinitum. As a result the money markets are now “starting to choke” on the supply of new treasuries.
Stepping in as lender of last resort to the banking system is what the Fed was intended for. Stepping in as the lender of last resort to the Federal Government is now what the Fed is being used for.
To be sure, this is outright monetization of the debt, without any other intended purpose. This may be why the dollar has taken a dive this month. Keep a close eye on it and the long-end of the bond market. If the dollar and long bonds both begin to fall together it may mean the markets have figured this out.
EDITOR'S NOTE
This is a Hedgeye Guest Contributor piece written by Jesse Felder and reposted from The Felder Report blog. Felder has been managing money for over 20 years. He began his professional career at Bear, Stearns & Co. and later co-founded a multi-billion-dollar hedge fund firm headquartered in Santa Monica, California. Today he lives in Bend, Oregon and publishes The Felder Report. This piece does not necessarily reflect the opinion of Hedgeye.
