As much as the Fed says it will pay attention the data the markets the
markets got the message that they shouldn't expect any relief from
tightening anytime soon. As the S&P 500 was down just over 4
percent for the week and over three of that came on Friday alone in response to
chip out. The Nasdaq fared even worse down four
point four percent. And again almost four of that came on
Friday alone. The bond market was a bit more
complicated with the yield on the 10 year up to just over 3 percent barely up
for the week. But the yield on the two year reacted
much more to the Fed news ending the week at three point four.
That's up 16 basis points for the week. To help us understand what the markets
are trying to tell us. Welcome now.
Peter Kraus is founder chairman and CEO of Aperture Investors.
Liz Ann Sonders chief investment strategist for Charles Schwab.
So listen give us your take on what happened here.
If the markets were expecting more of the same they sir sure didn't react that
way. Well I think the narrative around the
basis for the rally that started in mid-June some of it had to do with the
the peak in the 10 year at around three and a half percent.
But this narrative that was created around the notion of a Fed pivot we
never bought into that narrative. I think a pause is something we should
talk about at some point as did Powell today but a pivot to aggressive rate
cuts as early as the beginning of next year that the only reason the Fed would
have the green light to do that would be a significant deterioration in the labor
market from here and or a much more significant deterioration in the
economy. And for now we haven't seen that.
So it wasn't a surprise to see him really forcefully push back against the
idea of a pivot that once they get to whatever the sort of final hike is
they're going to stay there for a while. And I think the market had trouble
digesting that. So Peter if you look at the markets they
haven't entirely given up on that. Couldn't actually they backed off of it
some after the power remarks but not 100 percent.
Were you surprised the market reaction. No I wasn't.
I was a little surprised with August's games.
I mean it was really sort of a melt up. It's sort of persistently was a risk on
type of market. And as was in said it really wasn't any
reason to believe that Powell was going to somehow give some credence to the
idea that the Fed was about to reduce rates in the next six months.
So I think the market sort of just realized that it was rising in a at a
level that is not sustainable given where interest rates are likely to go.
And we haven't really seen enough economic weakness to signal that rates
are going to modify. So the market reacted to that.
And I suspect it may follow through with more of a reaction until we get into
September and there's real volume and real players in the marketplace.
And right now we're still in a very very thinly traded market.
Peter if if the Fed was trying to get out of the business really affecting the
market it's not succeeding very much. I mean obviously the central banks
around the world really got involved a lot starting with the great financial
crisis. And some people thought they were trying
to pull out of it including with the balance sheet rundown.
But right now how much of this is just driven by the central banks themselves.
Peter. Well we have not seen a return to
fundamental investing we're still in markets that are captivated by airline
risks and headline commentary whether it's the Fed whether it's the Russia
Ukraine war or whether it's China's Covid policies.
We're still being driven by headlines and not enough fundamental analysis.
I suspect that we're going to come to a market where fundamental analysis will
have much more of an impact on what investors actually invest in.
But we're going to have to get to some level of the bottom here.
And I don't think the market's quite there yet but it's forming a bottom.
So listen one of things that Peter just mentioned actually is liquidity.
To what extent is that playing a significant role right now.
We're seeing in the markets. Well there's the short term impact
simply of just light volumes by virtue of it being August.
And I think Peter's right about that. But you know we've recently done a 180
in the liquidity environment with the Fed having gone in the past year from
zero percent interest rate policy blending the balance sheet to nine
trillion dollars and now starting that process in reverse.
Not to mention the fact that so much liquidity has moved away from the
traditionally liquid markets into less liquid markets and at a point in time
possibly where there is that need for more ample liquidity.
I think that has the potential to be a future strain.
I also think that that Peter is absolutely right.
This has been more macro driven not fundamentally driven.
Certainly not the unbelievably low quality bias to where some of the
speculative juices were were running most Todd in this rally from mid-June to
mid-August. But we're also dealing with a you know I
like David Tench channel. The old days on Wall Street week and my
first 13 years in the business starting in the mid 80s was working for the late
great Marty Zweig who coined the phrase Don't fight the Fed.
And I think Howell's underlying message today was hey don't fight us.
That's really why you were an important part of that Wall Street we've got to
say back in the day. But let's let's pick up on one thing and
that's credit because we really haven't seen credit spreads brought law yet.
Should we expect that coming. So we did see a maybe not a blowout.
Just depends on how you define that term.
But we did see a pretty significant move up in spreads and then they retreated a
bit in conjunction with the rally in the equity market.
But that contributed to a loosening in financial conditions which maybe not as
explicitly focused on today by Powell. That was another thing I think they
needed to and are starting to push back on is this loosening of financial
conditions. And we had our conversation earlier
today and Peter has thoughts that I think we're not out of the woods
certainly from a from a credit environment.
There's a lot of low quality zombie companies out there that probably are
going to face some some growing pressure.
Yeah. I mean it's those it points out where we
have interest rates that are two times what they were six months ago.
While there may not be a maturity wall that we're facing because many companies
have been able to refinance in the last 18 months that's not entirely true for
the commercial real estate market. Number one.
And it's not true for every company. So as we continue to see a slower
economy and less revenues and more pressure on cash flow I suspect that we
will see some credit widening and we will see some stress in the credit
markets. And that hasn't really happened yet.
And one other issue on liquidity we talk about liquidity as it relates to the
Fed. We also talk about liquidity as it
relates to the actual trading markets that credit lives in.
The trading markets that credit lives in have been very thin very illiquid and
create significant gap risk. And that is going to continue.
I don't see that changing in any shorter period time.
Listen I wonder does the rise of private credit contribute to some of the lack of
liquidity the thinness in the market some of the opacity.
I think absolutely. I think we've taken for granted for much
of the past 15 years or so in the aftermath of the global financial crisis
with the Fed going to zero interest rates and starting met multiple rounds
of QE. And I think we've been in this
environment where liquidity was so ample that we didn't worry about that.
I think we're now entering a part of the cycle where we're going to find that we
probably should have had a bit more of a cushion.