Tag Archive for: QuantitativeTightening

The Everything Bubble Is Imploding

Estimated Reading Time: 5 minutes

A few years ago, some smart observers popularized the phrase “the everything bubble” to describe the behavior of the financial markets.

Years of zero interest rates and bank reserve expansion through the Federal Reserve’s policy of Quantitative Easing set off a wave of asset price inflation.  Fiscal policy (Federal spending) was aggressive as well. Oddly, consumer price inflation remained subdued.  Governments and economists became confident that inflation was not a problem, but that deflation was a problem.

While it seems like yesterday, under the final year of the Trump Administration, the Consumer Price Index was climbing around 1.5% per year.  This was largely because the CPI does not track asset price inflation well and undercounts the influence of housing costs by using a rental imputation number rather than actual housing costs.

You might recall, that the FED complained about disinflation and stated its goal was to take inflation above the 2% level.  Looking back, it seems foolish that they got what they were asking for and more.  Further, when it became evident something was going wrong, both the politicians and the FED argued that inflation was “transitory.”

Ultra-low interest rates promoted the use of borrowing by consumer for goods like autos, housing, and financial speculation.  Conventional margin debt soared, and a host of new speculative products emerged: leveraged ETFs, SPACS, cryptocurrencies, and NFTs. Brokerage houses promoted asset-backed lending such as borrowing on your stock account to buy real estate or other assets.

Then along came lockdown. The policy of lockdown, an ill-considered reaction to the Wuhan virus, then set into motion a number of conflicting trends.  Perhaps the most important was the direct injection of money into the hands of the public and the same time shutting down production by the closure of business and the quarantining of the healthy workforce.  This injection of money created out of thin air was felt necessary to offset the negative effects of the government-mandated lockdown. 

One good disaster deserves another.

Since this was fiscal stimulus transmitted directly into the bloodstream of the economy, rather than the earlier expansion of bank reserves through QE that largely remained in the banking system, the money supply boomedAt the same time, supply was constrained as both US production and most of the foreign products that we import, were shut down.

The result was too much demand was created and too little supply was permitted.  The result now has been double-digit inflation caused by both monetary expansion and supply constraints.

Even as late as last year, equity prices soared 28% and gold prices tested their all-time highs, and went to new highs in many foreign currencies.  Commodities soared and “the everything bubble” got larger and larger.

The government has continued the supply constraints, even beyond the lifting of lockdown.  This has come primarily from the attempt to alter the climate of the earth over the next one hundred years.  The result has been to restrict the production of cheap reliable energy sources in favor of untested and uneconomic alternatives of wind and solar, and the attempt to mandate a revolutionary change in transportation by forcing both through law and incentives, the adoption of electric vehicles.

This has driven up the price of fuel, the cost of farming (fuel and fertilizer), the cost of everything made from petroleum (over 6,000 products ranging from plastic pipe to adhesives), and the cost to transport everything that needs transporting to grocery store shelves and warehouses.

In short, the supply constraint on energy is a supply constraint on many other things.

Lockdown thoroughly screwed up the labor markets.  Millions of workers left and never came back.  Wage levels thus moved sharply higher and labor shortages are reported in many sectors of both production and services.

The result has been both asset price inflation and consumer goods inflation.

Reacting to the inflation they unleashed, the FED belatedly increased interest rates and started QT, or Quantitative Tapering, the selling of central bank reserve assets.  The rate of change in the growth of the money supply is coming down rather quickly.

As a result of the new monetary dynamics, portions of the everything bubble are now starting to break and go in the other direction.

Beneficiaries of the cheap money regime have become victims of its removal.  The benefit of financial leverage (the use of borrowed money to control more assets than you could afford to buy with cash), is now starting to work in reverse.  We are now leveraging the downside losses.

Stock prices have declined into bear markets, bonds have had the worst year since 1788, and many commodity prices, that were soaring just months ago, are coming off their peaks pretty violently. Cryptocurrencies have dropped 70-80%, which are losses equal to or greater than some of the great bear markets in equities.  Precious metals have fallen as well.

Commodity prices directly connected to economic activity are now dropping sharply.

Copper prices, you would think would be a direct beneficiary of the government-forced technology changes for transportation.  But copper has dropped almost 40% from its recent peak just since March.  Lumber prices, directly related to the housing boom, have fallen 55% from their peak in January.  Shipping costs, once soaring, have reversed and are falling rapidly.  The Baltic Dry freight index is down 65% from its recent peak. Container rates for the traffic between US West Coast ports and China are down nearly 50%.

Housing prices are now beginning to wobble and we have covered this development extensively in The Prickly Pear, largely through our friend Wolf Richter and his columns.

In short, many key commodity prices are now taking some serious hits and housing is likely to follow stocks, bonds, and commodity prices to lower levels. Housing is highly leveraged with the typical 3% down mortgage more leveraged than commodity futures.  This has the capacity to throw our banking system into turmoil.

This is already evident in China, whose housing bubble is collapsing and bank runs are publicly evident.

As the everything bubble implodes, it is hard to know which sector will go next.  The biggest danger is likely the real estate markets because so much of consumer wealth is tied up there and “feelings of consumer wealth and prosperity” are tied to housing.  This could cause stress in the banking system, but also cause the feeling of “wealth loss” to cause consumers to pull in spending.  Consumer spending is 70% of GDP.

All of this combined creates a real risk of slipping into recession, or worse.

What a problem now for the FED!  If they stay the course to crush inflation, they may become a pro-cyclical force.  In short, they will make the coming recession that much worse.  This is called a policy error, which seems too mild of a term.

If they reverse course and take a monetary U-turn before inflation is vanquished, they run a risk not only to their credibility but risk high inflation in the midst of contraction; call it stagflation on steroids.

Meanwhile, the supply constraints on energy continue with a religious fanaticism by Progressives that rivals the Medieval church.

We even see signs of an inquisition of sorts, that is the punishing of heretics that don’t believe the global warming story.

It seems Wall Street is betting on a soft landing or a U-turn in policy. Stock prices are starting to stabilize a bit and bond prices have actually bounced.

A soft landing would be a nice outcome, but the sharp break in commodity prices suggests it will be a harder landing than expected.

The problem is we rely on the same geniuses who thought inflation at 1.5% was unacceptable, who thought huge deficits didn’t matter, and who think environmental fanaticism will have no consequences.

Good luck with that.




Fed’s QT Kicks Off: Total Assets Drop by $74 Billion from Peak, New Era Begins

Estimated Reading Time: 3 minutes

QE creates money. QT does the opposite: it destroys money.


Total assets on the Fed’s weekly balance sheet as of July 6, released this afternoon, fell by $22 billion from the prior week, and by $74 billion from the peak in April, to $8.89 trillion, the lowest since February 9, as the Fed’s quantitative tightening (QT) has kicked off. The zigzag pattern is due to the peculiar nature of Mortgage Backed Securities (MBS) that we’ll get to in a moment.

Treasury securities fell by $20 billion for the week, and by $27 billion from peak.

Run-offs: twice a month. Treasury notes and bonds mature mid-month and end of the month, which is when they come off the Fed’s balance sheet, which in June was June 15th and June 30th.

Tightening deniers. Last week’s balance sheet was as of June 29 and didn’t include the June 30th run-off. However, the army of tightening-deniers trolling the internet and social media doesn’t know that, and so a week ago, they fanned out and announced that the Fed had already ended QT, or was backtracking on it because Treasuries hadn’t dropped in two weeks, which was hilarious. Or more sinister: hedge funds manipulating markets through their minions.

Inflation compensation from TIPS adds to balance. Treasury Inflation-Protected Securities pay inflation compensation that is added to the face value of the TIPS (similar to the popular “I bonds”). So if you hold a fixed number of TIPS, their face value will rise with the amount of the inflation compensation. When they mature, you will receive the total amount of original face value plus inflation compensation.

The Fed holds $384 billion in TIPS at its original face value. It has received $92 billion of inflation compensation on those TIPS. This inflation compensation increased its holdings of TIPS to $476 billion.

Over the month of June, inflation compensation increased by $4 billion. In other words, until those TIPS mature and run off the balance sheet, the Fed’s holdings of TIPS will increase by the amount of inflation compensation – currently around $1-1.5 billion a week!

No TIPS matured in June. But next week, July 15, TIPS with an original face value of $9.6 billion-plus $2.5 billion in inflation compensation will mature, for a total of $12.1 billion, that the Fed will get paid. After that, the next maturity of TIPS on the Fed’s balance sheet is on January 15, 2023. And the TIPS balance will increase from July 15 through January 15 due to inflation compensation.

The thing to remember about the Fed’s TIPS is that the inflation compensation is added to the balance of TIPS and therefore to the balance of Treasury securities, at around $1-1.5 billion a week currently.

The balance of Treasury securities fell by $20 billion from the prior week and by $27 billion from the peak on June 8, to $5.74 trillion, the lowest since February 23:

  • Note the two run-offs on the balance sheets on June 16 and today.
  • Note the small steady increase of around $1-1.5 billion a week after QE had ended from mid-March into June, which is the inflation compensation from TIPS.

MBS fell by $31 billion from the peak.

Pass-through principal payments. Holders of MBS receive pass-through principal payments when the underlying mortgages are paid off after the home is sold or the mortgage is refinanced, and when mortgage payments are made. As a passthrough principal payment is made, the balance of the MBS shrinks by that amount. These pass-through principal payments are uneven and unpredictable.

Purchases in the TBA market and delayed settlement. During QE, and to a much lesser extent during the taper, and to a minuscule extent now, the Fed tries to keep the balance of MBS from shrinking too fast by buying MBS in the “To Be Announced” (TBA) market. But purchases in the TBA market take one to three months to settle. The Fed books its trades after they settle. So the purchases included in any balance sheet were made one to three months earlier.

This delay is why it takes months for MBS balance to reflect the Fed’s current purchases. The purchases we see show up on the balance sheet in June were made somewhere around March and April.

And these purchases are not aligned with the pass-through principal payments that the Fed receives. This misalignment creates the ups and downs of the MBS balance, that also carries through to the overall balance sheet.

In addition, MBS may also get called by the issuer (such as Fannie Mae) when the principal balance has shrunk so much that it’s not worth maintaining the MBS (the issuer then repackages the remaining underlying mortgages into new MBS).

Tightening deniers. So when the tightening-deniers – including a hedge-fund guy with a big Twitter following – trolled the internet and the social media about QT not happening because MBS balance ticked up by $1.2 billion on the June 23 balance sheet, they got tangled up in their own underwear. The following week, the MBS balance fell by $19.5 billion. That’s how MBS on the Fed’s balance sheet work. These folks just didn’t know, or more insidiously, tried to manipulate the markets…..


Continue reading this article at Wolf Street.

Mortgage Rates Are Rising Much Faster than Treasury Yields. What’s the Deal?

Estimated Reading Time: < 1 minute

Is this spread heading to what happened in the 1970s and 1980s when the Fed battled blow-out inflation?

The average 30-year fixed mortgage rate tracks the 10-year Treasury yield, running roughly in parallel but higher. It tracks the 10-year yield because the average 30-year mortgage gets paid off in just under 10 years, either through the sale of the home or through a refi. But they don’t move in lockstep, and the difference between the two – the spread – has been widening sharply, with mortgage rates suddenly rising much faster than the 10-year yield.

The US Treasury 10-year yield has shot up since the Fed made its infamous “pivot” in the fall of 2021, from willfully ignoring and assiduously brushing off the incredibly spiking inflation to actually acknowledging, even if tepidly at first, its existence and persistence.

Back in August 2021, the 10-year yield was still at around 1.3%. Today it’s 2.34%, having gained 1.03 percentage points in seven months. Over the same period, the average 30-year fixed mortgage rate, as tracked by Freddie Mac, jumped by 1.55 percentage points, from 2.87% to 4.42%:

The chart above shows what happened during the March 2020 chaos, when the Fed cut its policy rates to near 0% and announced a huge QE program which caused the 10-year Treasury yield (green line) to plunge, while mortgage rates just continued their methodical decline that lasted through December 2020.

That decline in mortgage rates was kicked off in late November 2018, when Powell, getting hammered on a daily basis by Trump, caved and communicated that the Fed would soon stop tightening.


Continue reading this article at Wolf Street.

The Mayhem Below the Surface of the Stock Market Seeps to the Surface: Now it’s the Giants that Topple

Estimated Reading Time: 2 minutes

The market finally gets it: The Fed is going to tighten to get a handle on its massive inflation problem.

Since February last year, the hottest most hyped stocks, many of them recent IPOs and SPACS, have been taken out the back and brutalized, either one by one or jointly. The stocks that have by now crashed 60%, 70%, 80%, or even 90% from their highs include luminaries such as Zoom, Redfin, Zillow, Compass, Virgin Galactic, Palantir, Moderna, BioNTech, Peloton, Carvana, Vroom, Chewy, the EV SPAC & IPO gaggle Lordstown Motors, Nikola, Lucid, and Rivian, plus dozens of others. Some of these superheroes are tracked by the ARK Innovation Fund, which has crashed by 55% from its high last February.

This mayhem has been raging beneath the surface of the market since February last year, and in March, I mused, The Most Hyped Corners of the Stock Market Come Unglued. They have since then come unglued a whole lot more. But the surface itself remained relatively calm and the S&P 500 Index set a new high on January 3 this year because the biggest stocks kept gaining or at least didn’t lose their footing.

But now even the giants too are going over the cliff. Combined by market cap, the seven giants, Apple [AAPL], Amazon [AMZN], Meta [FB], Alphabet [GOOG], Microsoft [MSFT], Nvidia [NVDA], and Tesla [TSLA] peaked on January 3, and in the 13 trading days since then have plunged 13.4%. $1.6 trillion in paper wealth vanished (stock data via YCharts):

And it has occurred because markets finally get it: Inflation is a massive four-decade problem for the Fed, and the Fed is about to lose, or has already lost, four decades of credibility as inflation fighter that Volcker was able to build. And so it is going to tighten to get this under some sort of control.

This tightening will consist of raising interest rates moderately, and by firing up Quantitative Tightening (QT), as the Fed governors explain at every chance they get. QT does the opposite of QE, and QE was responsible for driving up asset prices to these ridiculous highs.

And this notion of QT finally sank in – even among the biggest names…..


Continue reading this article at Wolf  Street.

What I See for 2022: Interest Rates, Mortgage Rates, Real Estate, Stocks & Other Assets as Central Banks Face Raging Inflation

Estimated Reading Time: 3 minutes

An extra-special cocktail of three powerful ingredients with no cherry on top awaits us in 2022.

Super-inflated asset prices such as housing, stocks, and bonds; massive inflation; and central banks that have started to react.

Many central banks have started pushing up interest rates; others have ended asset purchases. And Quantitative Tightening (QT) – central banks shedding assets – is on the table.

Rising interest rates in the US won’t catch up with raging inflation in 2022 – CPI inflation is now 6.8%, the highest in 40 years.

But unlike 40 years ago, inflation is now on the way up. In the early 1980s, it was starting to head down. We need to compare the current situation to the 1970s, when inflation was spiraling higher. So we’re entering a new environment where the economy will be doing things we haven’t seen in many decades. It will be a new ballgame for just about everyone.

Inflation has now spread deep into the economy, with services inflation picking up, and there are no supply-chain bottlenecks involved. This includes the inflation measures for housing costs. Those housing inflation measures have begun to surge.

We know that the figures for housing inflation, which account for about one-third of total CPI, will surge further in 2022, based on housing data that we saw in 2021, and that is now slowly getting picked up by the inflation indices. They started heading higher in mid-2021 from very low levels, and they’re going to be red-hot in 2022.

This is inflation is fueled by enormous monetary and fiscal stimulus, globally, but particularly in the US – with nearly $5 trillion in money-printing since March 2020, and over $5 trillion in government spending of borrowed money.

The stimulus has broken price resistance among businesses and consumers. Enough businesses and consumers are willing to pay even the craziest prices – a sign that the inflationary mindset has taken over for the first time in decades. All this stimulus has broken the dam.

Inflation is not going away until central banks remove the fuel via QT to allow long-term interest rates to rise, and by pushing up short-term interest rates via rate hikes, and until these policy actions are drastic enough to shut down the inflationary mindset and reestablish price resistance among businesses and consumers.

Central banks around the world react

The Bank of Japan ended QE in May 2021 – the longest-running money-printer has stopped printing money.

The Fed started tapering QE in November and doubled the speed of the taper in December. If it doesn’t accelerate it further, QE will end in March.

The Bank of Canada ended QE in October. The Bank of England ended QE in December. The ECB announced that it would cut its huge QE program in half by March. Several smaller central banks that did QE have ended it.

Central banks in developed markets already hiked rates:

  • The Bank of England: by 15 basis points, in December, for liftoff.
  • The National Bank of Poland: three hikes, totaling 165 basis points, to 1.75%.
  • The Czech National Bank: five times by a total of 350 basis points, to 3.75%.
  • Norway’s Norges Bank: for the second time, by a total of 50 basis points, to 0.5%.
  • The National Bank of Hungary: many small hikes totaling 180 basis points, to 2.4%.
  • The Bank of Korea: twice, by 50 basis points total, to 1.0%.
  • The Reserve Bank of New Zealand: twice, by 50 basis points total, to 0.75%.
  • The Central Bank of Iceland: four times, by 125 basis points in total, to 2.0%.

Central banks in developing markets have been much more aggressive in hiking rates to get inflation under control and protect their currencies; a plunge in their currencies would make dollar-funding very difficult. They’re trying to stay well ahead of the Fed. Among them:

  • The Central Bank of Russia: seven times, totaling 425 basis points, to 8.5%.
  • The Bank of Brazil: multiple huge rate hikes, by 725 basis points since March, to 9.25%.
  • The Bank of the Republic (Colombia): three hikes totaling 125 basis points, to 3.0%.
  • The Bank of Mexico: five hikes, totaling 150 basis points, to 5.5%.
  • The Central Bank of Chile: four hikes, 350 basis points in total, to 4.0%.
  • The State Bank of Pakistan: three hikes, totaling 275 basis points, to 9.75%.
  • The Central Bank of Armenia: seven hikes, totaling 350 basis points, to 7.75%.
  • The Central Reserve Bank of Peru: five hikes, totaling 225 basis points, to 2.5%.

There are some exceptions, particularly Turkey, which has embarked on an all-out effort to destroy its currency via inflation and is succeeding in doing so by cutting rates. Over the year 2021, the lira has collapsed by nearly 80% against the dollar, with inflation raging at over 20%.

But in the US in my lifetime, there has never been a toxic combination of interest-rate repression to near-0%, amid 6.8% inflation, as the Fed’s money-printing continues for now.


Continue reading this article at  Wolf  Street.