Pushing on a String

Lower rates may not bail out the economy this time around

June 29, 2019

Looking back on the best performance for the S&P in the month of June since 1938 reveals a familiar pattern: economy shows signs of slowing, earnings outlooks decline, equity market stumbles, Fed rushes in with the promise of easier policy, market rallies to new record (again)…problem solved. Completely predictable, and almost comical at this point. There aren’t many people left that think that the Fed’s real mandate of fostering maximum employment and price stability hasn’t taken a back seat to maintain the appearance that everything’s fine through higher stock prices.

How many times can they keep running the same play? Right now investors still seem willing to believe that the Fed can extend the business cycle forever, but it does beg the question of whether the economy and the markets are even viable without support from the central bank.

The big issue in front of us is whether another round of rate cuts can rescue the economy? It might. But the next big trade is going to be recognizing that tipping point if and when the markets and economy fail to respond.

Next month the current expansion will become the oldest on record. Investors need to start worrying about the marginal effectiveness of any potential rate cuts this late in the cycle, especially now that yields globally are already at rock bottom. Lower rates almost certainly aren’t the answer to a system choking on debt from the past decade of easy money, but apparently, that won’t keep policymakers from offering it up again. The minute the markets realize that the Fed and other central banks are shooting blanks the entire game changes.

Which is why housing data is worth paying attention to. Over the past week, a series of reports on pending, existing and new home sales showed a continuation of weaker year-over-year trends despite the stimulus normally associated with declining mortgage rates. It might be an early and important sign that aside from the raging bull market in equities, demand in the economy is slipping and becoming inelastic to the level of rates. See https://cnb.cx/2IHmcfT . So even if the Fed embarks on another round of rate cuts they may find themselves pushing on a string.