Credit markets remain bolted to a narrow range, and although stocks have burbled upward there is little action there, either — low volatility everywhere.
One theory holds that markets don’t care about the peculiar onset of the Trump administration, the Trump Rally holding, and the economy doing pretty well, upshifting last summer close to 2.5 percent annual GDP (gross domestic product) trend.
Here a brief review of bond-market responses to typical and current events, the political inseparable from the economic.
Our most basic knee-jerk: If economic news is hot, we sell bonds and rates rise. Heat implies future inflation and punishment by the Fed.
If news of cooling, the reverse.
The first rule of political news: Bond traders as a group assume that all politicians are useless, so partisanship is not involved. From there a hierarchy of events, beginning with the most serious: war. In the event of armed conflict, buy bonds!
There is nothing big to worry about on that front now. The best news from the new administration is the quiet work of James Mattis at Defense and Rex Tillerson at State (Google them, try to find something incendiary…), and whomever replaces Flynn will be an improvement.
The overseas-scape
Nations overseas understand that something odd is going on here, and so they chill. Russia is obviously testing the edges, but that’s nothing new, and the gentlemen above know what to do.
North Korea may fester, but including China’s involvement, we are able to see perhaps 1 percent of what’s really going on. A destabilizing repudiation of “one China” did not survive the third week after inauguration.
Domestically, Obamacare has some fiscal consequences, but little to effect markets, so there has been no trading on repeal of repeal. We have received a stack of executive orders, but many presidents have learned the hard way that nothing happens when they give orders — they must execute, which is why we call it the “executive branch.”
Businesses hope for reduced regulation, which would make life easier and more profitable, but will reduction produce a faster economy?
The biggest pending deal: the combination of tax cuts, tax reform and a new tariff. The structure is active in the House, Paul Ryan after 20 years of stingy theorizing actually has the tools in his hands.
A good, non-partisan description of the initial proposal: at the Tax Policy Center. The proposed tax cuts would add $600 billion annually to the deficit and are weighted 75 percent to business — pure giveaways. The middle-class tax cut is too small to notice (By the way: Income tax cuts are inevitably over-weighted to high-income earners because they pay the most taxes).
The current proposal has near-zero chances, especially in the Senate.
Under current law we have a deficit explosion ahead and must reform entitlements (by means-testing), and we do not need a tax cut. The rate of corporate tax does need to come down to global standard, but that’s a minor fix.
The gleam in Ryan’s eye is a new and big tariff on imports, which would raise enough money to “pay” for the tax cut. The tariff is called both Destination-Based Cash Flow Tax (DBCFT) and BAT for Border Adjustment Tax.
Stick with BAT. Batty it is. The problem with U.S. trade is the foreign barriers to our exports, not our imports, predatory exporters to us already well-policed by the General Agreement on Tarriffs and Trade and the World Trade Organization. Slapping a 20-percent tariff on imported goods will destabilize world trade, drive up consumer prices for all basic goods and hurt well-established supply chains.
Listen just once to Ryan trying to explain BAT, and you’ll recognize a dead bat.
The elephant of political questions, of course: Does Trump finish his term?
Daniel Henninger of The Wall Street Journal, a firmly right-side columnist this week headlined, “Is This Trump’s Watergate?”, noted similarly fatal leaks then and now, and concluded, “Get it straight, or 1974 could return.” And on Saturday Night Live recently, we saw Alec Baldwin standing in the Oval Office surrounded by shower nozzles.
How does this biggest of all political questions play in markets? If he resigns, a market relief, and it’s President Pence, who if anything would be more likely to make progress on the Trump-Rally agenda. Stocks and rates up.
In the awful possibility of campaign complicity with the Russians, they both go, and then Ryan is next in line, all still same.
Although I can’t identify a thread along which markets will trade the current circus as long as it runs, it does seem to have paralytic effect.
Example: In last week’s press conference when the president referred to a “fine-tuned machine,” in any normal era the room would have exploded in insuppressible laughter. But markets like the press corps are in a state of wide-eyed, mesmerized, jaw-dropped immobility.
The Fed is coming
Move on to the one U.S. institution that has done its job in the last 10 years: the Federal Reserve.
Fed Chair Janet Yellen will do her job no matter what conflict awaits with the administration. The Fed will hike as soon as next month, and markets are not as prepared as they should be. The rate explosion last November was not so much about Trump as belated response the Fed’s clear intentions.
In her testimony to Congress this week, Yellen offered this advice: I would point to the importance of improving the pace of longer-run economic growth and raising American living standards with policies aimed at improving productivity. I would also hope that fiscal policy changes will be consistent with putting U.S. fiscal accounts on a sustainable trajectory.
Productivity, sustainable finance. Amen.
The 10-year T-note in the last year
The 10-year T-note in the last year, just frozen for the last 60 days.
The 2-year T-note
The 2-year T-note likewise stuck in place, which may mean March is not “live.” But inbound economic data are too hot for the Fed to sit for long.
The following pair of charts is from the January small-business survey at NFIB. This survey has been an excellent proxy for the economy for 40 years. Until now.
Now it’s an excellent political barometer. The NFIB membership is heavily conservative. The top chart for January as in December showed little actual change in business conditions. The lower chart is just “optimism.” The two charts do not crossfoot.
The optimism chart is a Trump approval rating and nothing more. This most recent survey was mostly taken before the last four chaotic weeks, and we’ll see how optimism holds in the base.
The Fed’s newest “damned little dots,” predicting the year-end level of the Fed funds rate. Throw out the top four dots which correspond to uber-hawks at regional Fed banks. If the Fed funds rate is to rise from .75% to 1.50% by this year-end, they’ve got to get going.
From the New York Fed, household debt. Growth in the last 90 days of 2016 was not only healthy but an upward trend-breaker. More reason for the Fed to act.
Lou Barnes is a mortgage broker based in Boulder, Colorado. He can be reached at lbarnes@pmglending.com.
