March started out like a lamb and turned into a dove by the middle of the month. I bet you thought I was going to talk about the weather! No, I’m going to spend an inordinate amount of time this month talking about the Fed’s rate hike in March, the markets’ reactions, and where we go from here. So, pull up a chair, get your feet up and relax for this issue of the Review & Focus®.
Was It a Rate Hike or Rate Cut?
It was the Ides of March, and while stranger things have happened on March 15 through the years, what happened on this day, this year, will be remembered for some time. The Fed hiked rates 25 Basis Points or 0.25%, but the markets reacted as though they cut rates 25 Basis Points! That’s right, I’m not joking around here. The dollar lost ground as if the Fed had cut rates. The Dollar Index went from 101.51 the morning of the 15th, to 100.60 the next morning, and since then it has dropped further to below 100.
The yield on the 10-year Treasury also dropped like the Fed had cut rates, from 2.61% on 3/14, to 2.52% on 3/16, and then it dropped even further to 2.49% a week later.
Stocks rallied as if the Fed had cut rates! The Dow Jones Industrial rose from 20,814 on 3/14, to 20,934 on 3/16.
And gold traded as if the Fed had debased the dollar with a rate cut. Gold rose from $1,199 on 3/14, to $1,227 on 3/16, and gold has continued to add to its prices since the rate cut, I mean rate hike, as it rose to $1,246 a week later.
And it’s not just the asset pricing that reacted this way. I saw a report by Goldman Sachs stating its financial conditions index, “eased sharply, by the equivalent of almost one full cut in the federal funds rate.”
In other words, the Fed’s 25 Basis Points, or 0.25% rate hike, had the same effect as a 25 Basis Points or 0.25% rate cut!
What the heck is goin on here? Well, in my humble opinion, I think the markets overreacted to the press conference where Fed Chair Janet Yellen explained her reasons for the rate hike. And this is where I can tell you I think the Fed went down the wrong road.
You see, before the final week leading up to the rate decision, the Fed Funds Futures Market was showing odds at less than 50% in favor of a rate hike. So, I think that Janet Yellen thought that if she hiked rates, it would cause chaos in the markets. That’s because, the markets were so ill-prepared, according to the odds. Therefore, Yellen put together a dovish sounding statement that would follow the rate hike, to help the market recover from any post Fed-meeting chaos. As luck would have it, odds in favor of a rate hike began increasing during the last week leading into the Fed Meeting, and by the time the Ides of March arrived, they were near 100%. But, Yellen had already put together her statement and thus, the markets took what she said as “dovish,” and we had the reactions listed above.
Talk about a pickle for the Fed. I don’t believe Yellen intentionally tried to steer the markets in this direction, but now the markets have taken back control from the Central Bank.
A Long Awaited Move For Sure
Since 2009, the markets have held no control over the direction in which they moved. The bond boys haven’t held sway over yields for years, and the Central Banks around the world, led by the Fed, have had command. That appears to be changing.
Now, I’ve long said that eventually the Fed would lose the control they hold. And I said one of the things that would cause this to happen is a loss of credibility with the markets. Now, I’m not Fed bashing here, I’m simply attempting to explain what I think has happened. The Fed is sending mixed messages to the markets, and finally the markets are saying they’ve had enough.
The spin doctors will be all over this going forward, trying to smooth over what was said, and how it was said, but the bottom line is this: I believe that Central Banks around the world are losing their grips on the markets. And I think that it’s about time this happened!
The OECD Forecasts Global Growth for 2017
Not everyone believes this loss of control of the markets by the Fed is coming at a good time. I found this on Bloomberg.com: “The global economy may not be strong enough to withstand risks from increased trade barriers, overblown stock markets or potential currency volatility, according to the Organization for Economic Cooperation and Development (OECD). While forecasting a pickup in growth this year and next, it said the pace is still too slow and warned there’s much that could derail it.”1
My longtime readers know that I’ve been talking about a good old-fashioned tent revival for the global growth that seems to be going on right now. Commodity prices are climbing, Central Banks appear to be finished cutting interest rates, and individual countries are posting gains in manufacturing and economic growth. The gains are small at this point, and could very well be wiped out quickly, but for now, the tent revival goes on.
But I’m not one to go all-in on something like this. In fact, I take it with a grain of salt, and look for further clues before jumping to conclusions. The OECD has been calling for a recovery in global growth for five years now, and their call for 2017 and 2018 hasn’t changed. After five consecutive years of below-average growth, they are once again confident that starting next year, we’ll see global growth.
So, I’m seeing signs of a recovery in global growth, but it’s not going to happen without China participating in the recovery. This is where the rubber meets the road. Everyone thinks that the U.S. is the economic engine of the world, but the U.S. hasn’t grown at a 3% pace in 10 years. On the other hand, China shows that they’re still growing at a 6.5% pace, even though they’ve slowed significantly. Even if we believe only half of what the Chinese tell us, that’s still better than a 3% pace.
Although China is showing signs of recovery, capital flight has caused so many problems for the Chinese. They’ve had to use over $1 trillion of their reserves defending their currency from the capital outbound flows. But recent reports show that the outbound flows have slowed, and the reserves have leveled off.2 So, maybe there’s a chance we’ll see a recovery in global growth, but will it be strong enough to cure all that ails us? I doubt it.
Modi Wins Back The Markets
I’ve also recently been writing about how the Indian rupee continues to fly under the radar and make stealth-like moves against the dollar. So, I thought I would dive a little deeper with the rupee and India this month. So here goes…
For the past couple of years, I’ve been very disappointed with the Indian rupee. It had so much to gain after the landslide victory of Prime Minister Modi a couple of years ago. I kept saying that the Indian people were losing faith in Modi’s ability to unlock the Indian economy, and when the Reserve Bank of India’s (RBI) Governor Rajan resigned, I really thought that things might take a turn for the worse.
And then along came the idea to put smugglers and the like out of business by removing the two largest denominations of rupees. This move caused the need for many Indian citizens to open bank accounts that they didn’t previously have, and it also created a lot of chaos in the Indian economy.
But, apparently, when all is said and done, Modi’s plan will have worked. The Indian economy is recovering, and to top it all off, in the latest round of elections, Prime Minister Modi took his party to a landslide victory in the Uttar Pradesh region. The Indian people forcibly stated that Modi is “their man.”
And if I’ve taught currency investors one thing over the years, it’s that currency traders love stable governments, and apparently that’s what we may have in India.
So the rupee is in stealth-mode and there appears to be plenty of room to run for the rupee going forward.
Is the Strong Dollar Trend Coming to an End?
I know I keep talking about this, and we never really see a selloff of the dollar that would indicate the reversal of this strong dollar trend. But, take a minute and look over the currency performance chart that our very own Tim Smith provides each month. Do you see how the mid-February to mid-March currencies are all in the green? And a quick review of the period before this month’s chart also shows most currencies in the green vs. the dollar, thus, making it two consecutive months. What’s that tell you? It could imply that a mini-trend is in place. We could very well be seeing an end to the strong dollar trend, though we’ll have to wait and see what happens, given policy changes that could come out of Washington.
So there’s the latest with the Fed, markets, and more. We’ll continue to keep an eye on all of this, and the various economic happenings around the world. In the meantime, I hope you had a great spring break.