Call me chicken or ambition challenged, but I wouldn’t want to be in the shoes of Federal Reserve chairman Jerome Powell right about now. Sure, he has free limousine rides everywhere, bodyguards and everyone hangs on his every word.
But right now Powell and his crew are facing the worst stock market bear since the Great Recession. He cannot just stand there, even if it were to be the best to let the market sort itself out. He has to do something.
Given we are only days away from the next Fed Open Market Committee (FOMC) meeting (March 17-18), I think we might not see Fed action until then—unless the market continues to tank before then. As bad as things look, the Fed might want the dust to settle before loosening shock and awe.
The CME’s Fed futures market, which has been historically a better predictor of Fed funds rate moves than the famous Fed “dot plots,” is effectively saying there is a very strong probability that the Fed funds rate will drop from 1.00%-1.25% to 0.25%-0.75% and strong probability it will return to zero-0.25%.
That appears to be taken as a given by investors. The wildcard is Quantitative Easing, or QE. The market is buzzing with speculation that some kind of new QE program will be announced. The previous QE saw the Fed expand its balance sheet (and the U.S. money supply) enormously through its purchase of U.S. Treasury bonds in order to bring more liquidity to markets. There is even talk that the Fed would buy equities, which might or might not help the stock market. Some investors could see that as a panic move by the Fed.
In the meantime, the NY Fed surprised markets last week with an announcement Thursday that it would offer up to $1.5 trillion in short-term loans to big banks, in order to “address highly unusual disruptions in Treasury financing markets associated with the coronavirus outbreak.” This represents an expansion of its previous program of supplying liquidity through repo operations and short-term loans in the money markets.
The Wall Street Journal reported that its monthly economists’ survey expects, on average, gross domestic product to contract to 0.1% in 2Q vs a previous projection of 1.9%. They see growth of 1.2%, down from 1.9%. Annual growth was 2.3% in 2019.
Separately, European Central Bank President Christine Lagarde unveiled a modest stimulus package to shield the region’s economy from the fast-spreading coronavirus, but investors weren’t impressed. She suggested the bank might cut rates further if the economic outlook worsens, but analysts were unconvinced. The eurozone economy could shrink 1.2% in 2020, as workers stay home and households cut back on travel, entertainment and large purchases, according to research firm Capital Economics.
The yield on the benchmark 10-year U.S. Treasury note settled at 0.78%, new historic lows, compared to 0.78% one week ago and 1.00% the previous week ago. Unless you think U.S. bond yields are going negative, that asset class looks vulnerable to a Fed trying very hard to lift rates.