Thoughts From The Divide: The Works
“Expectant Optimism”
The dog-and-pony show in front of Congress this week has given Jerome Powell the opportunity to showcase his latest mantras. “Message discipline” was masterfully maintained (atypically?). The Fed chair reiterated (“om mani padme hum”) that cuts will likely be appropriate “at some point this year”, with the usual caveat that such a move would require increased confidence on the part of the FOMC “that inflation is moving sustainably toward 2 percent”. Of course, being the contrary sort, we are still thinking about one of Jerry’s other zingers: that when it comes to restrictive rates, “we will know it by its works”. So, Jerry, ahead of the Fed meeting in two weeks, what are “markets” telling us?
The usual suspects, i.e. the rate-sensitive parts of the economy, continue to (breathlessly) cry uncle. CRE continues to be the remarkable dumpster fire that it has been (see Pittsburgh, although we are told it’s very nice these days!), but as the distressed sales and bruised valuations continue to spread, there are growing signs that the collateral damage is mounting. Take, for example, the city of Boston, which is now moving to address a potential “$1-billion-plus budget gap brought on by Boston’s eroding commercial tax base”, which “along with residential property taxes, make up roughly three-fourths of annual budget revenue”. However, perhaps the more worrying development from recent weeks is the saga of New York Community Bancorp. Having received a fairly decent hit to its stock price a little over a month ago when the company announced a fourth-quarter loss “and slashed its dividend to shore up capital” due to misjudgments associated with its purchase of Signature Bank assets, the bank is back in the headlines. It appears that management was trying to fix its screw-up by “seeking to raise equity capital in a bid to shore up confidence”. Sadly, a lack of stealth (or big mouths) allowed the news to leak, which “ended up causing the share price to fall more than 40% in a matter of minutes”. Thankfully, there were some vultures around (well, that’s lucky!), and one “consortium of big-name investors led by former US Treasury secretary Steven Mnuchin” swooped in (alternative link) to provide a “$1bn lifeline” (on which the group “has already made a paper profit of more than $1bn”). Yet, as the article explains, “ebullient” talk of “beginning a new chapter… looks premature”. The infusion doesn’t change the fact that “about half” of NYCB’s multi-family loan book is “buildings in New York City that are subject to rent regulations in one form or another”. Live by the pen, die by the pen? (Residential real estate is also feeling heat from another angle via insurance and the growing problems therein. It is interesting with respect to the argument that shelter costs have already peaked. Increasing landlord costs can exert upward pressure on rent while also eating into margins/yield for anyone invested in buildings that are “subject to rent regulation”).
The above is to say you can certainly identify parts of the economy where Powell is absolutely correct in saying that the “restrictive stance of monetary policy is putting downward pressure on economic activity”, but there does seem to be some suggestion that it’s far from everywhere. The recent price action of certain equities and crypto seems to imply that financial conditions may not be that tight. The equity market isn’t the economy, etc… but we’d offer up the words of none other than the Fed’s own Bostic as evidence that even the Fed knows that “the works” may not yet be showing rates are restrictive enough (or have been so for long enough). In a recent speech, the Atlanta Fed President noted the presence of upside risk in the form of “expectant optimism”:
“Despite business activity broadly moderating, firms are not distressed. Instead, many executives tell us they are on pause, ready to deploy assets and ramp up hiring when the time is right. I asked one gathering of business leaders if they were ready to pounce at the first hint of an interest rate cut. The response was an overwhelming “yes”. IF that scenario were to unfold on a large scale, it holds the potential to unleash a burst of new demand that could reverse the progress toward rebalancing supply and demand… This threat of what I’ll call pent-up exuberance is a new upside risk that I think bears scrutiny in coming months.”
