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Why the Fed Cannot Tighten


T-bonds have gotten trounced since late January, when long-term yields, which vary inversely with price, touched a millennial low of 2.23%. On Friday they spiked as high as 2.87%, reflecting the growing eagerness of investors to reduce their bond exposure ahead of a presumed credit-tightening later this year. But suppose everyone is wrong and the Fed continues to pussyfoot and prevaricate as it’s been doing since the last rate hike, in 2006? We continue to view that as the most likely scenario, even if the entire investment world seems to regard tightening as all but certain. Going sharply against the consensus, Rick’s Picks has been asserting for nearly two years that the Fed will never raise rates. Obviously, this forecast has to be wrong sooner or later. However, our point is that “later” could prove to be much later than investors appear to expect. Moreover, when interest rates finally do rise, we think the move will be driven by calamitous market forces rather than Fed policy.

BOnd selloff looks corrective

In the meantime, the Fed is in the untenable position of needing to strike fear in the hearts of credit-happy investors at a time when the central bank should be loosening, at least in theory. That’s right: loosening! For if the Fed were to tighten, it would turn the dollar’s already steep rally into a vertical spike. That would have catastrophic implications for the economic world. For starters, the quadrillion dollar derivatives bubble would deflate, since the entire Ponzi game is built on borrowed dollars. Players counting on inflation to make it easier to repay those dollars would experience the opposite, and ruinously so.

No Bluffing a Strong Dollar

The dollar’s strength has already begun to take a heavy toll on the earnings of some of America’s biggest multinational firms, including megabanks, because their foreign revenues shrivel when translated into dollars. Under the circumstances, it is suicidal for the Fed to continue pretending the economy is strengthening merely to make their hawkish bluff – and it is a bluff, as far as we’re concerned — sound more plausible. The laughably rosy statistics the government churns out week after week cannot mask the fact that home sales are sinking, even with 3% mortgage money, and that America’s alleged economic recovery – by far the weakest since World War II – is precariously sustained at this point by little more than rising share prices and a boom in auto sales that is being fed by a blowout in subprime loans and giveaway leases.

With a strong dollar tightening the deflationary noose around the global economy, it is by no means certain that the Fed could slow the greenback’s rise with dovish talk or even dovish action, since European rates for large depositors are already negative. How do you compete against that? The answer is that you can’t – unless you monetize so aggressively that you risk hyperinflation rather than deflation. Obviously, that won’t happen, and that is why we remain extremely bullish on Treasury Bonds (as well as long-term munis), notwithstanding the selloff that has occurred since January. The chart above puts the bonds’ weakness in perspective. To us, at least, it looks like no more than a moderate correction in a powerful bull market.

To take the other side of the bet is to implicitly believe, among other things: 1) that the U.S. has succeeded in borrowing its way back to prosperity; 2) that the Fed’s spinmeisters have not exaggerated the strength of the recovery to please their political masters; 3) that the debt paper of Greece, Spain, Portugal et al. presently offers a once-in-a-lifetime buying opportunity; 4) that Europe’s decades-long stagnation is about to reverse; 5) that the wholesale collapse of brick-and-mortar retail in the U.S. has seen its worst; 6) that America’s safe-haven status for global investors is about to end; and 7) that Iran’s growing menace in the geopolitical world will be checked.

If all of these things seem plausible, then, yes, it makes absolute sense to trust in the Fed and to believe that tightening lies dead ahead.

Please do not ask trading questions!

  • mava March 12, 2015, 6:35 am

    “I think 25 basis points is possible, John, but that’s all it might take to bring the global house of cards down, since it would subject a bazillion dollars worth of borrowing to a slightly higher rate. RA”

    But, boy, what a wildly telegraphed hike it will be. I can just see it “In a determined sequence of timed rate hikes, the FED has said Wednesday, it has no doubt it will be able to chill the the economy that is just about to become overheat. Starting with .10 “warmer” this month, it’s going to follow with a series of 18-en hikes ranging from .10 to .25 leaving enough room for some careful choreographed action.”

    That would be the sucker bet of the century, as it would become instantly self-evident to all, with the FED sputtering after just two 0.10 hikes, and millions trying to front run it.

  • mava March 11, 2015, 2:51 am

    I agree with RA on this one. Apple and IBM are borrowing, because they realize that interest rates are no longer reflecting the inflation. I.e. if the inflation is 3% and the interest rate is 2,5%, then you are having real interest rate of – (minus) 0,5%, and the bank is giving you money for free. besides the free money, everybody understands that the us government had killed the us. So, this means that the collapse will happen if not tomorrow then the day after tomorrow, and you want to come to that threshold with all the debt, and no loans. The more you can borrow today and drag to the line of collapse, the more you will win from the stupid people who pay off their debts, because they think that radio advice is good for them.

  • Traveler March 10, 2015, 7:15 pm

    Will just say it’s been fun reading the various debates which tend to be on the order of how much of an increase to expect. Even Martin Armstrong expects a rise in rates relatively soon.

    But the Fed is between a rock and a very hard place as the pressure coming from the US government to keep rates down must be extremely high. The bubble will burst eventually, but I think too many people are on the wrong side of the boat at the moment, hence I’m more in agreement with Rick’s take, i.e., the raise will happen, just not on our time frame. Methinks they will try to hold the rates down until after the 2016 elections. Don’t laugh, they’ve held rates down more than long enough in this decade, what’s another 20 months?

    Armstrong does have an interesting take: “The key is simply the spread between interest rates and expectations. If you expect to double your money in 1 year, you will pay 25%. But if you do not think you will make 1% in a year, you will not borrow at 0.5%.” I read this as, why borrow even at such a low rate if you have no faith that you will make it to the other side whole. A valid point, indeed.

    • Rick Ackerman March 10, 2015, 9:04 pm

      I don’t think Armstrong’s statement about borrowing accurately describes what has been going on. If you can borrow for practically nothing, you don’t much care about the outcome. Why else would companies like Apple and IBM that are glutted with excess cash be borrowing tens of billions of dollars (and euros)?

  • John Jay March 10, 2015, 5:23 am


    If they do raise it .25%, you can be sure that it will all be thoroughly discussed with the TBTF banks, hedge funds, and mutual funds. And all those players will be positioned well in advance to front run the announcement.

    An options guy like yourself will probably see the footprints they leave in that market as they take up positions to game the move. Or, maybe you would see nothing happening which might mean there will be no increase. Even with all the robots trading markets today, they still leave footprints you can follow on the charts at 15 minutes and longer time frames. A lot more spikes and dips than there used to be as they use head fakes to clip the weak hands, but the footprints still show up.

  • frogjelly March 9, 2015, 8:58 pm

    “Bonds got annihilated last week and I received a ton of emails asking ‘what happened?’ Personally, I think the response should be “I’m surprised it took this long.” But let’s think about it in lay terms. I went to Costco to get gas this weekend and the pump prices were 24% higher with oil only up 10% from a month ago. On Friday night, at one of my favorite local Italian kitchens, Mia Francesca, their amazing calamari portion looked about ½ the size. On Saturday night, at a favorite French Bistro, Le Bouchon, the amazing duck for two (or one) jumped up in price by 30%. I’m not even going to tell you about the pre-hockey game steak burrito at La Pasadita which is now approaching double digits. Inflationary pressures are back and if you don’t believe me you can buy bonds and short burritos…..” – Tom Sosnoff


    Stagnant wages muffle inflation, since workers who must pay more for something will simply have less to pay for something else. Restaurants are reducing portions to avoid having to charge prices that many of their customers would reject.

    All current price inflation is insignificant compared to the ‘unactualized’ deflationary Godzilla represented by a quadrillion dollar derivatives bubble. RA

  • Oregon March 9, 2015, 5:50 pm

    Spot On R.A.
    I would add that the desperate global pursuit of taxes will be another “noose around the global economy”
    No worries though. Clint Eastwood will be there to shoot the ropes when all seems lost. Blondie!

    • John Jay March 9, 2015, 9:42 pm


      At the end of the Roman Empire taxes were so high, and the government agents so ubiquitous that well off people gave up and welcomed the barbarians or ran away to territories controlled by the barbarians. Roman coins were debased to the point where they only had traces of silver in them. They had secret police that would goad you into saying something bad about the Emperor and promptly arrest you.
      The city of Rome sucked in products and taxes from all over the world and produced spectacles and grain doles to keep the mob occupied.
      Sound familiar?


      Perhaps the Fed will issue a token .25% increase in June or September, and then use the already moribund economy as a reason to stop right there going into the 2016 Election farce. And a farce it will be with Jeb, Hillary or their clones presented for our approval.
      Until something appears to replace the USD, we should keep staggering down the road and continue to kick the can as we go along.


      I think 25 basis points is possible, John, but that’s all it might take to bring the global house of cards down, since it would subject a bazillion dollars worth of borrowing to a slightly higher rate. RA

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