“Not in our lifetime.” - Is This The Top?

The last couple of days has thrown a new emphasis on our oft repeated concerns of late (most recently here) about the US Fed tightening monetary policy into a fundamentally weak, easy money addicted market.  We’ve also repeatedly acknowledged they are stuck between a rock and a hard place as blind Nelly can see all their easy money since the GFC has caused the “everything bubble” which they desperately want to contain, but tightening that easy money could be the prick that pops it.  Whilst to date the Fed have largely talked up an ‘economic rebound’ as the basis of their tightening shift, the last couple of days has 4 senior members publicly becoming a little more blunt… they want to deflate this bubble.  The 2 of most noteworthy were firstly John Williams (San Francisco President):

"there seems to be a priced-to-perfection attitude out there” [and that the stock market rally] "still seems to be running very much on fumes” and “we are seeing some reach for yield, and some, maybe, excess risk-taking in the financial system with very low rates. As we move interest rates back to more-normal, I think that that will, people will pull back on that,”

Maybe the real bell ringing came from the Chair herself, Janet Yellen after admitting “Asset valuations are somewhat rich if you use traditional metrics like price earnings ratios”.   How’s this for hubris …

"Will I say there will never, ever be another financial crisis? No, probably that would be going too far. But I do think we’re much safer and I hope that it will not be in our lifetimes and I don’t believe it will."

We are reminded of the then Chair of the US Fed, Ben Bernanke’s comments in February 2007:

“Our assessment is that there's not much indication at this point that subprime mortgage issues have spread into the broader mortgage market, which still seems to be healthy. And the lending side of that still seems to be healthy.”

And then just one month before the start of start of the GFC sequence of events, in July 2007:

“The global economy continues to be strong, supported by solid economic growth abroad. U.S. exports should expand further in coming quarters. Overall, the U.S. economy seems likely to expand at a moderate pace over the second half of 2007, with growth then strengthening a bit in 2008 to a rate close to the economy's underlying trend.”

The world looks to the US Fed as the pre-eminent central bank force pulling the strings to guide the global economy.  

Julius Caesar famously said “It’s only hubris if I fail”.  The problem for Janet is that history shows tightening into weakness has precipitated many a recession before.  Maybe that’s why gold is the best performer since they started….

No amount of belief that they’ve ‘got this’ can overcome the sheer amount of debt and asset inflation created in their ‘easy’ environment whilst economic growth has barley recovered and the ‘99%’ left behind.  Monday we shared BIS’s conclusion to their latest global economic report.  Have a read of their 4 main concerns outside of geopolitical black swans:

  1. First, a significant rise in inflation could choke the expansion by forcing central banks to tighten policy more than expected. This typical postwar scenario moved into focus last year, even in the absence of any evidence of a resurgence of inflation.
  2. Second, and less appreciated, serious financial stress could materialise as financial cycles mature if their contraction phase were to turn into a more serious bust. This is what happened most spectacularly with the Great Financial Crisis (GFC).
  3. Third, short of serious financial stress, consumption might weaken under the weight of debt, and investment might fail to take over as the main growth engine. There is evidence that consumption-led growth is less durable, not least because it fails to generate sufficient increases in productive capital.
  4. Fourth, a rise in protectionism could challenge the open global economic order. History shows that trade tensions can sap the global economy’s strength

Despite Ms Yellens senior age, we don’t like her chances…