By Richard Breslow, a former FX trader and fund manager who writes for Bloomberg.
It seems clear in retrospect that Fed Governor Brainard’s speech yesterday was not aimed at investors. Rather, it was meant quite pointedly at her fellow voting members of the FOMC.
After all, even with Fed speakers having been consistently hammering home a hawkish message since mid-August, the market was still only pricing about a 30% chance of a September move. The odds, by definition, were against an early move. Even as markets began very catchable moves, which have largely defined the last month of trading. Not a time to kick back, despite the time of year
Interestingly, even with a dovish Brainard and September being declared DOA, yields remain marginally higher than when Fed speak began, as is pricing for a December move. And not all that far from the magical 70%. The S&P 500, ultimate leading indicator of continued easy policy, has more work to do to reclaim previous glory
It’s been busy for the big players, as well as the average trader, with any number of serious portfolio managers arguing for pre-emptive portfolio adjustment. Pimco revealed just yesterday that at the end of August it had reduced duration in its biggest fund. And going long break-evens by selling Treasuries for inflation-linked bonds. Gee, now why would someone do that?
Portfolio managers who have survived and thrived exploiting the greater fool theory and front-running the central banks have long understood something the authorities are only belatedly discovering. Monetary policy has its limits. And sovereign bond markets are backing up as a result.
The Fed continues to waffle between trusting their forecasts and needing the comfort, and cover, of seeing inflation take root before acting. Investors don’t always have that luxury. When their models stop working, they eventually go out of business. Economists can keep hoping a comatose Phillips Curve will suddenly open its eyes
So why did the shoe come off from the party line? When did she feel that we, or more importantly her colleagues, needed to be reminded that the economy, or financial conditions, had suddenly caught pneumonia? It does make one ponder: what was the balance of risk that changed the outlook?
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