While it is only the US that is tightening, QT or reverse-QE as I like to call it, is still the major factor driving the world economy.
Money finds its way to the best yield for risk and when money gets scarce and risks rise capital retreats risk to safety at home. This means all those untold trillions in US QE (remember QE will have been leverage fed to the moon) are unwinding and coming back to the US, leaving a cash desert behind. Its no wonder Germany has stopped growing and on the edge of recession because its exports are linked to emerging economies buying industrial goods and those emerging countries have a cash crunch care of the US and are holding off buying.
The pace of QT has been slowed and the Federal Reserve has made it understood it is not going to crash the markets by being too hawkish and it is suggested President Trump has put the thumbs screws on to slow the Fed down on its $50bn a month program which appears to be now running under $40bn for now. This is a good job as it became abundantly clear in December that the global economy is on its backfoot and that a hawkish Federal Reserve was on target to create a full blown crash.
When I started writing about QT over a year ago I said the call was between the Federal Reserve smoothing the market and attempting to support the market at current levels by tweeking QE/QT until the cash from economic growth replaced the cash from QE. The alternative was it failing to do so and the markets suddenly suffering an old fashioned crash. There would be no continuation of the never ending bull we have enjoyed since 2009.
I also wrote that the 200-day moving average would be a target for any smoothing for the Fed as this was an easy to signal, easy to understand pivot..
So the market tried to crash in December and as per the previous attempt in February 2018 stocks have since made a defiant and rather magical recovery.
What do you know, here we are back at the 200 day moving average bang in the middle of the range I consider the rails for QT.
We shouldn’t fight the Fed, but it is clear that holding this level is going to be difficult especially if circumstances get tricky. As an investor, buy and hold profits will be slim and as a trader, swing trading is going to be risky.
QT, Quantative tightening is happening mainly in the mortgage security end of the Fed’s balance sheet, the quiet least liquid section, so the balance sheet is being brought down by selling out the low hanging less liquid and economically convex fruit first. This is smart and buys time. There is also space to ‘twist’ the balance sheet even while it is being shrunk to further soften the blow. You could sell down securities and twist the maturities of the balance sheet at the same time to compensate for lost liquidity.
As such the Federal Reserve has wriggle room and in the end if the balloon went up, QT is not compulsory and more QE would work just fine as the British have recently demonstrated.
No other Central Bank is tightening or is called out by anyone to do so. The ‘unorthodox monetary policy of QE’ is now seen by some as a panacea for funding horribly leveraged sovereigns as far as the eye can see. As technology deflates prices government can re-inflate back to a natural inflation rate by QE’ing. It looks good on paper but it does mean the asset poor get buried with only cheap food and consumer goods to their name.
With all new financial instruments, it’s the hidden variable that gets you or the inconvenient mispricing that kicks the legs from under the miracle.
With another couple of trillion of federal Reserve balance sheet to pay down, crazy geopolitics and highly priced assets at every turn awaiting a promised return to their own value mean, it won’t take much to spark the next leg down of this bear market.
It you look at the chart without even drawing a single line, it takes a lot of faith and optimism to see anything but bad news ahead.
For me down looks highly likely and up not very likely at all. Sideways could happen but you will have to have nerves of steal to be buying the next time we see the recent low. My money is on an SP500 at 2000 within a year or so.
Lets hope instead the Fed can pull off their 200ma sideways trade.