Its a wonderful day in the financial markets. …. NOT. In fact, financial markets are breaking bad.
Where to begin?
U.S. equities extended a sell-off and the pound tumbled as traders took a grim view of the outlook for global growth and trade after UK Prime Minister Theresa May delayed a crucial Brexit vote.
Meanwhile, the Great Britain Pound got pounded.
And the 5Y – 3Y Treasury curve inverted.
And the US Breakeven 5 Year Inflation Rate is collapsing.
Yes, financial markets are breaking bad.
Since the beginning of the QE unwind — or “balance sheet normalization,” as the Fed calls it — in October 2017, the Fed has now shed $364 billion.
Of course, The Fed still have a long way to go to unwind its $4 trillion balance sheet. But The Fed is, at the same time, raising its target rate (although through confusing messaging).
The S&P 500 index and the NAREIT All Equity (Real Estate Investment Trust) indices are soaring along nicely with The Fed’s balance sheet expansion (aka, low interest rates), but are experiencing rather dramatic volatiity in the face of a shrinking balance sheet and rising Fed target rate.
And yes, volatility is increasing with Fed unwind and target rate increases.
SMART Money Flow Index? The decline coincides with The Fed’s unwinding on its Treasury positions.
Bubble you ask? Instead of “bubble” or “collapse,” the Fed uses “valuation pressures” and “broad adjustment in prices.”
To quote the late, great Isaac Hayes from Reindeer Games, “There are monsters in the gelatin!!”
As of 11am EST, global equity markets are a sea of red.
The Dow is down 600 points (2.4%) while the EU is down around 3%.
After the big sell-off on Tuesday, we often see a rally the next day. But not today. It is a continuation of the trade tensions between the US, China and other trading partners.
And nervous investors are pulling out of equites and jumping into the safe zone (sovereign debt) pushing prices up and yields down.
Even commodities are taking a beating as well … except gold.
Calling The Fed, ECB, BOJ, PBOC!
While the US economy is humming along nicely, there is trouble brewing in River Cities (that is, the Yangtze River in China and The Rhine River in Europe).
Both the Eurozone GDP forecast and China Manufacturing PMI are falling like a paralyzed falcon.
Yes, we got trouble in River Cities … overseas.
Ted Day! The Ted spread (3m Treasury yield- 3m LIBOR) is rising … again.
The optimism that drove gains for riskier assets appears to be quickly dissipating as investors scramble to figure out exactly what, if anything, was agreed between the U.S. and China on trade at the weekend. Treasury Secretary Steven Mnuchin and President Donald Trump’s top economic adviser, Larry Kudlow, dialed back expectations and added qualifiers when asked about the outcome of talks between Trump and Chinese President Xi Jinping. China has said nothing about the commitment to remove car tariffs flagged by the U.S., nor did its statement mention the 90-day timeline for talks the Americans have specified.
In the Treasury market, all eyes remain on the yield curve after three-year yields climbed above those of their five-year peers on Monday, potentially foreshadowing the end of the Federal Reserve’s tightening campaign. The more closely watched part of the curve — the gap between two-year and 10-year yields — remains upwardly sloped.
Yes, but flattening like a pancake.
Or getting dunked in cold water like Ted.