For those long time residents of Florida who have endured hurricanes and readers of these pages, the headline for this brief piece is perfectly logical when one considers the duration and severity of this past season.
The election of 2024 was viewed by many as the “eye” of the economic storm, a pause between the apparent decline of relevant economic activity in concert with the hope of a renewed American system restoring the good old days of 2019 and the bygone era of Reaganomics.
When taken in context with the current status of the American economy, it presents a terrifying outlook which highlights the naive beliefs pushed forward by the political and media elites that this is the “best economy and best stock market ever” mentality.
If one has experienced a major hurricane, the feeder bands on the backside of a storm are usually the worst part for those in its path. The inner eye wall, the first feeder band, and second band after that project extremely stormy and unpredictable conditions. Thus why this author says in the photo above “you are here” to illustrate as to where this economy and the nation as a whole are heading.
On November 4th these pages warned that the remnants of the Biden administration would engage in a “scorched earth” policy much like Russia did during the Napoleonic War and World War II. So far, they have yet to disappoint with the behavior by hiring more bureaucrats, rushing through regulations, and engaging in geopolitical mischief to leave a massive nightmare for President Trump’s team to clean up.
I. Liquidity is Going to Get Dicey
There have been signs that the usual year end liquidity squeeze might be unusually violent this year. The following article from Bloomberg might be a small indicator as to why fund managers, not retail investors, are a little nervous heading into an extraordinary year end period for credit and equities.
Via Bloomberg, October 8, 2024 (subscription required):
Turbulent US Funding Market Forewarns of a Volatile End to 2024
The concerns are best expressed by this excerpt from the article linked above:
Market participants say a spike in interest rates tied to repurchase
agreements, which are overnight loans collateralized by US Treasuries,
could intensify in December as both regulatory burdens and Treasury
auction settlements collide for the second time in three months,
siphoning cash out of the funding market. It was those conditions that
pushed rates to atypical levels at the end of the third quarter.“Year-end is now a bigger issue given the volatility” at quarter-end, said Peter Nowicki, head of repo trading at Wedbush Securities Inc.
The problem this year is somewhat more unique as the currency markets are imputing a larger link into the instability in credit markets, which could rapidly accelerate towards then end of this month. This includes a potential re-inversion of the 2 year 10 year US Treasury Yield curve as a result which would indicate a further period of potentially more financial market stress in the months ahead.
II. Equities and Violent Currency Moves
In the early morning hours today, Michael Kramer penned an article at Seeking Alpha which seems almost prophetic considering the extreme problems facing not only the Federal Reserve, but the Bank of Japan:
The Japanese Yen Is Flashing A Major Warning To Global Markets
Without revealing too much of the content, which many of our readers may have already reviewed, there is a historical precedent to the risk facing the Bank of Japan heading into an American year end period when liquidity gets a little dicey and many traders leave for the holidays starting on December 20th followed by an unusual Hanukah period which for all practical purposes starts on Christmas Eve and lasts until the new year.
Historically, that has always been a problem when the Yen rallies beyond market expectations and as a result US equities in the pay the price.
For example, here is the chart from the last real US banking and liquidity crisis that is not pandemic related from December of 2018:
Not that prior to the “markets” getting the revelation in December that there was a problem with funding for the banking system, the Japanese Yen rallied what would normally be considered extremely hard in October, essentially a warning shot. By the time the markets were in full panic mode resulting in the Powell QE to infinity promise on Christmas Eve of that year, a truly dangerous transfer into the Yen was well under way as markets feared the US liquidity and financial crisis was going to end in a repeat of 2008-2009.
This year, so far, the same concerns remain as the Japanese Yen has diverged from the US S&P 500 heading into December:
Interestingly enough, another staple of the Yen carry trade, the Australian Dollar vs the Yen is also indicating the same problem:
With what the Fed and Bank of Japan have in mind right before the major holidays hits could indeed provoke a nightmare of epic proportions.
III. Central Bank Tom Foolery
As of the pre-Thanksgiving holiday period the Atlanta Fed market probability tracker projects an approximate 68% chance of a rate cut to the 4.25-4.50% range by the Fed in a few weeks during the FOMC meeting.
Now comes the problem of what happens with a strengthening Yen just like August of this year being enhanced by a FOMC rate cut on December 18th. What would complicate that even more as the US and Europe heads into the holiday period is the fact that the Bank of Japan which is considering a rate increase on the 19th of this month also.
But why would the Bank of Japan consider such an increase now?
The core rate of inflation in Japan has increased to 2.20%, an unacceptable level for the standards of the BoJ and intolerant for a saver society which is the best description for the Japanese people.
Medium- and long-term JGB yield rise as Tokyo CPI fuels rate-hike bets
Thus US investors had best buckle up for an extremely turbulent period starting after the 16th of this month as liquidity thins and speculative bets on next year’s geopolitical and economic turmoil begins to take hold. The equity, commodity, and US Treasury markets are ill prepared for what is about to happen over the next sixty days.
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