Peak Fed Fears

This is about as hawkish as the Fed will get.  They are tripping over themselves to act like they weren't the same tools who kept pumping in $120B/month of QE and doing nothing but jawboning about transitory inflation to justify their inaction and stock market pumping for all of 2021.  The public loved it, as stocks skyrocketed, at least until their meme stocks kept going down while the inflation kept going up.  Then the public suddenly wanted their low inflation again, and the politicians got the message.  

No, the Fed won't be regaining their credibility on inflation with their sudden tough talk.  Actions speak louder than words.  And let's face it, they are only talking tough while the market is still calm.  When you get those nasty 10%+ corrections, like you saw earlier in the year, then the Fed suddenly get timid again, as seen by their 25 bps bb gun shot in March.  A whimper of a first barrel.  Its easy to sound tough on inflation and threaten 50 bps hikes while stocks are going up, its a lot tougher to do it while the stock market is entrenched in a nasty downtrend and pressure is on them to do less, not more. 

To put it another way, the Fed has no guts.  They just want the glory.  As I mentioned before, they want gutless glory.  Powell is the farthest thing from Volcker.  He wants to be revered like a Volcker, but couldn't even carry his jockstrap.  Powell is the slickest, most political Fed chairman ever.  He will suck up to the Republicans when it serves his interest, and then flip back towards sucking up to the Democrats if that's what's necessary, even if he doesn't believe any of the crap that he spews out.  Powell folded like a cheap lawn chair in early 2019, under pressure from Trump, Mnuchin, and most of all the stock market.  And with his nomination up in the air in 2021, he did the gutless easy thing:  continuous pumping through QE and blatant lies on inflation as being transitory to goose the stock market, using the Rona as convenient cover, even as inflation and the economy were red hot.  

Powell hasn't changed.  He's still the same guy who folded in early 2019.  He's still the same guy who tried to win the nomination by spewing transitory inflation BS until he got renominated.  He will cave in under the pressure of a falling stock market + weakening economy and stop the tightening later this year.  Its not a matter of if, but when.  Will it be September? October? November?  My bet is on one of those 3 months.

So with that baseline assumption of a gutless Fed clearly stated, the Fed has slowly backed themselves into a corner.  They have to back up their tough rhetoric even if stocks go down, just to keep what little inflation fighting credibility they have left, after they lost a lot of it last year.  So with the Powell/Brainard hawkish talk over the past 2 weeks, they are signaling 50 bps in May and 50 bps in June, and if the stock market isn't falling apart by late July, probably another 50 bps in the July meeting.  If the stock market and or the economy is weakening, they either do 25 bps or pause and completely cave in. 

One of the reasons that investors are so skeptical of the Fed's sudden hawkishness is because they've always folded under the pressure of a weakening stock market.  See 2016.  See late 2018.  So to get their hawkish message across, they basically have to bring down the hammer and be over the top.  Otherwise, investors won't get the message.  Well, stock investors are finally starting to get the message, much later than the bond investors.  And from what I am hearing, even bond investors are still trying to pick the bottom, saying the high for yields is just around the corner.  But the price action and looming deluge of supply with a net $215B/month change from Fed buying to Fed selling Treasuries + MBS is a HUGE thing to overcome. 

The only way Treasuries will be able to have a sustained rally under the barrage of supply is if the economy or the stock market actually starts to noticeably roll over.  For the real economy, its still a few months away, as the fumes from the 2020/2021 stimulus are still there, with a decent amount of leftover buying power still available.  For the stock market, with hedge funds having low net exposure, and from the COT positioning data and dark pool activity (DIX index from @SqueezeMetrics), fast money speculators are lightly positioned in stocks at the moment.  There has been higher than normal dark pool short selling activity, meaning passive flows have been steadily buying since January, so about 3 solid months of continuous buying.  But with weak fundamentals (QT+rate hikes, weakening economy in 2nd half), speculators and hedge funds just getting back to neutral levels of stock exposure would be enough to bring back the window of vulnerability to this market.  About 1-2 more months of calm and rising markets should be enough to get exposure back to neutral levels. 

Just a note on the crowd: they are not as dumb as widely perceived.  They got the big picture right by being bullish for most of 2021, rightly noting that the monetary and fiscal largesse were big tailwinds and the economy would get red hot.  And they are right on the big picture now, noting that aggressive Fed tightening will likely lead to a hard landing and a possible recession, and be bad for stocks.  But trying to time when the stock indices will go down for several weeks to months is one of the toughest things to do.  Its much easier to time when the stock indices will go up.  Basic math tells you that since bull markets are much longer than bear markets, and stock indices usually drift upward, its going to be much easier to time a profitable long entry than a short entry.  

I expect further weakness in the bond market until the May FOMC meeting, where the Fed has to back up their talk and do 50, otherwise they might as well take their ball and go home.  Usually a weak bond market is bad for stocks, due to risk parity effects, but there was such a huge purge of speculative positioning in stocks from January to March, its going to take a while for the fast money/hedge fund crowd to get back to even neutral levels, which usually happens as long as the economy holds up over the next 2 months, which is the most likely scenario.  Coincidence and short leading indicators are still strong, while long leading indicators are getting weaker and weaker.  

I did buy SPX on Tuesday and Wednesday, looking to play for a short term bounce.  I will look to sell if it bounces back close to 4600.