The markets have a weird methodology of warning the world that there are problems with the underlying economy if one listens for the signals. Unfortunately, the masses have enjoyed over fourteen years of speculative joy and frenzy under the illusion that the Federal Reserve and various Western governments of the world will socialize their losses and never allow another major recession to occur again.
A “surprise” hit the stock markets on Friday but many individuals who dissect the data and trends, especially those at the MacroEdge team, could see this coming a million miles away. The inherent and ongoing revisions of prior months data, methodology adjustments, and politicization of data distribution from the Washington’s institutions made the assessment easy, as even this humble author posted early Friday morning:
And that was the posting after 2 edits for pre-coffee typos from 6 a.m. I also warned in that thread that we would need bigger exits and by the end of trading on Friday, that too proved to be accurate.
So what was revealed in the BLS data what was published on Friday that should be a larger concern.
Two key excerpts caught my attention, first from the Household Survey:
This is not a sign of a strengthening economy nor one that is expanding any longer. The Establishment Survey also revealed a line of data which is mind-blowing for anyone who has been paying attention:
That was after May was revised down in the prior month’s release by 54,000 jobs making the total 56,000. Thus from the initial job release in May of +272,000, there has been an almost 20% change in the data. If that trend continues throughout June and July, this month’s weak +114,000 report would actually come in much lower, closer to +90,000. If one were to subtract the government jobs in that report without any change, that means July was a paltry +73,000 private employment positions added.
The Smart Money Knows
This brings us full circle into the two key questions; what does the smart money know and who is the smart money?
As usual, it’s the bond market. They know that there is a problem and that the financial media in concert with the “mainstream” media have been covering for a rot underneath the foundation of the US economy for over a year now. It was obvious as the Jay Powell and the Fed attempted to bluff everyone with the promises of rate cuts since last November. By failing to deliver those cuts at some point in the past 6 months, the bond market would impose its own version of rate cuts which are a more accurate revelation of economic weakness than any data report from the Fed or US government.
The price on the US 2 Year Treasury soared this week in what can only be called an outsized move as US government bonds are not supposed to trade like meme stocks. Or semiconductor stocks, for that matter.
For the prices to soar as they have in the past week almost back to the December 2023 highs when the markets were promised rate cuts is absolutely insane unless the economic weakness the smart money has detected is far worse than the Fed realizes.
The 2 year yield reflects this as well:
If anything, the bond market is screaming recession and the blunder these pages wrote about in the past week demonstrates that the Fed’s reactive actions are going to result in a sudden un-inverting of the 2-10’s yields and that their rate cutting will only be seen as panic, versus preventative action regarding the economic outcome.
The 10 year yield also validates the concerns expressed by the smart money with one of the most rapid drops during non-pandemic times in history.
The chart above illustrates that since the Powell presser where he paused rate increases and hinted at rate cuts, it took until this past week to get the 100 bps cuts and warn the Fed that their Fed Funds Rate structure was out of line with market expectations and economic activity.
If the Fed persists in relying on the massively revised, aka, inaccurate economic data and insists on holding rates higher, what will be the outcome?
The Consequences of Too High for Too Long
Unfortunately for Jay Powell, his hesitation to permanently stamp out inflation in early 2022 when the warning signs and numbers indicated a major inflationary surge was underway is now being outdone by the Fed’s antiquated economic modeling recognizing that the United States might already be in a recession, albeit mild at this moment.
The so-called “strong consumer” is tapped out in the bottom two castes of American economic society, with access to existing credit serving as supplemental income to maintain some semblance of a quality of life in the face of permanently higher price levels.
This leads this author to go into more detail as to what and why I think the Fed will react in August and September with what might be perceived by the masses in the equity markets as a panicked reaction.
The Fed has to protect the banks as the BTFP (Bank Term Funding Program) ends and runs off while the ability to finance or re-finance a larger than expected problems in the commercial real estate(CRE) area begins to impact regional and small banks around the country. Private equity will bail some of the banks out of selected properties, but at some point lower interest rates will be needed to stave off disaster and perhaps salvage bank balance sheets.
The current Federal Reserve Bank of NY Discount Rate is illustrative of how far behind the curve the Fed truly is.
Thus the unthinkable has to be considered as the Kansas City Fed convenes it’s annual symposium at Jackson Hole, Wyoming later on this month. The Fed will be reminded all month long as the 2 year yield presses against the 3.50% mark and the economic indicators reflect the accelerated deterioration that the PMI’s have been warning about all year long.
That is why Fed Chairman Jay Powell will have to repeat the “Goldman Bailout” as I called it on my radio program back in those days. The Fed in cut the NY Fed Discount rate from 6.25% to 5.75% on August 17, 2007. It was breathtaking as many traders in the markets had correctly read that Goldman Sachs was having liquidity issues and were profitably shorting that stock on the 16th but suddenly at the end of the day the stock surged and followed through the next morning after the 8:30 a.m. announcement as a massive short squeeze on all of the banks began.
That is why either the week before or during the Jackson Hole meeting I believe the Fed will issue a 50 bps cut in the Fed Discount Rate across the board, including Seasonal Credit, bringing the discount rate below the Fed Funds Rate for the first time in modern history.
If this were to happen, then a 50 bps cut is all but assured to re-balance the Fed Funds Rate back underneath the discount rate at the September meeting, if not sooner. Keep in mind the FOMC does not have to have a meeting to cut rates, it has happened before on an emergency basis and they could just as easily announce dual rate cuts at Jackson Hole.
While that course of action might put the equity market bulls at ease, the smart money will know the truth:
The economy is in far worse shape than even the Fed can comprehend.
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