Consumers feel grilled, but markets remain chilled.
It’s been exactly a year since Silicon Valley Bank failed in California. That means today is also the day when the Federal Reserve’s Bank Term Funding Program (BTFD) ends. Though banks can continue to hold their bonds in the Fed emergency funding vehicle in exchange for cash for another year, no new exchanges of devalued bonds for cash can happen. (The Fed can, of course, restart the program anytime a new and large enough crisis opens up as it navigates from crisis to crisis.) Termination of the program makes it a little more likely that some banks that were leaning too heavily on the program may have trouble.
Of course, the Fed said when it created the program that banks were fundamentally sound, but why would you create a massive emergency bank funding program to rescue banks that are “strong and resilient?”
This is once again a classic way that the Federal Reserve is propping up a failing system, pushing out the problem another day. Nothing has been solved. The same issues still exist. Banks are still holding onto these diminishing assets. They’re making risky bets and they’re still allowed to hold next to nothing in reserves. Which brings us to today. It recently came to light that this program has also allowed banks to game the system, not only giving banks liquidity but allowing them ways to actually make money off of these loans because of how the interest rates are set up. This has since been stopped.
The fund still has $160-billion in Treasuries banked in it in exchange for cash loans to the banks (only down a few billion from the BTFP’s peak). That won’t all go away today. Only the ability to use the fund for new bailout loans ends today, while loans already made will continue for their full one-year term. (If they were made a year ago, then, yeah, they will end today. About half of today’s full measure were made in the first three months of the program, but some banks may have terminated the original loan early and then made a new one more recently.)
What this likely means is that banks become more risk-averse, which they actually should be, but that will mean tighter funding for other businesses. It also means, if they have a run, the banks are back to paying out their “depositors” by selling bonds at current devalued market value (which is where SVB went bankrupt), rather than using them as collateral to get a loan at full face value from the Fed.
Ever since Covid, banks are no longer required to hold any reserve funding—an artifact of Covid-era policy that may surprise many and that seems oddly continued in a time when banks are “fundamentally sound” but just struggled from lack of reserves a year ago. It used to be banks had to hold enough in reserves in case they experienced a run on deposits to give depositors their money rapidly. Not so now, even as the BTFP is being pulled.
In reality, then, bank deposits are not really deposits at all. “Deposits” are held in custody. It is perfectly legal for your bank to hold no portion of the “deposits” entrusted to it, though it is not likely the case that any bank operates things that tight; but they are now all free to decide for themselves how much they hold in reserve “deposits.”
Banks were allowed to take reserves down to zero during Covid in case they needed to during a run. (After all, if you cannot deploy all your deposits during a run, why hold them anytime?) That should have ended when the emergency ended, but your government was content, even at the last congressional meeting with Powell, to let that situation continue since it is what the banks want to do.
Consumers are being devoured by inflation
The thing markets are intently watching for this week, however, is inflation, not bank troubles, with a couple of major reports coming in. Consumers are really feeling inflation now that the $20 burger meal is becoming increasingly prevalent, so markets may be keeping a watch on the retail numbers that come out, too, as a gauge of how cash-starved and hungry consumers are feeling, which will have a big impact on the consumer-driven economy.
I just talked to one local restauranteur at a bistro my wife and I really like, and he was completely downscaling his menu because he said he can no longer offer his high-quality burger and fries for $20 and make any profit on it. He doesn’t feel good about holding Andrew Jackson hostage for a burger meal, so he is taking burgers off the menu. He also laid off 70% of his staff to try to start making a profit again with simpler fair that is quicker to cook than burgers because otherwise he’s going out of business. That’s getting pretty lean on the menu, so I’m not sure how he’ll make that work. What is he going to offer me for under twenty bucks that I actually want? Cauliflower and ranch dressing? I’m not likely to bite on that.
Inflation is putting on weight
This week’s inflation readings are likely to weigh heavier on stocks than other recent upticks because they will be the last data on inflation the Fed gets ahead of its March 19th-20th rate-setting meeting. The same can be said regarding the bond market:
The [bond] selloff in February, which pushed Treasury yields to their highs of the year, was due in part to January’s hot consumer price data, which showed surprising strength in core services, an area of concern for the US central bank….
Since hitting a high of 4.47% in late February, yields on two-year Treasuries, which are sensitive to Fed policy, have retreated about 25 basis points. Ten-year yields also declined from last month’s peak.
Last week, Bloomberg wrote,
“Next week’s inflation data and the Fed’s dot plot the following week will uncork a lot more volatility.”
Markets await the reports with bated breath. Still, stocks and bonds have both been steeped in so much unreality that …
“CPI would need to be off the charts” to deter the view that “2024 is actually not opening up as strong as some feared and that January strength was not indicative of reality,” said George Goncalves, head of US macro strategy at MUFG. “This is a bond market that wants to run.”
Never underestimate either market’s ability to wear blinders. Consumers, however, have a beef with the cheeseburger pricing issue and are not at all sure inflation is going to cooperate with the Fed:
Consumers increasingly doubt the Federal Reserve can achieve its inflation goals anytime soon, according to a survey Monday from the New York Federal Reserve.
While the outlook over the next year was unchanged at 3%, that wasn’t the case for the longer term. At the three-year range, expectations rose 0.3 percentage point to 2.7%, while the five-year outlook jumped even more, up 0.4 percentage point to 2.9%.
If the consumer knows more from the street level about food markets and all other markets for tangible goods and services than stock markets, bond markets and the Fed do, then …
… the central bank may need to keep policy tighter for longer.
Street smarts are now saying the Fed doesn’t have inflation beat and will lose ground. Moreover,
Economists and policymakers consider expectations as a key factor in viewing the path of inflation, so the Survey of Consumer Expectations for February could be bad news.
Consumers sound a lot less sure about how well anchored prices will remain than Powell did at last week’s congressional meetings.
Inflationary shipping pressures still building
But, hey, at least the Suez Canal and Panama Canal remain almost totally shut down, so what could pressure prices up more than they are now … unless they start delivering cheeseburgers through the canals? Then expect an $80 cheeseburglar to rob your pockets soon.
The Suez’s problems are geopolitical and those in Panama are climate-based, but both are roiling global trade. Cargo volumes through the Suez and Panama canals have plunged by more than a third. Hundreds of vessels have diverted to longer routes, resulting in delivery delays, higher transportation costs and economic wreckage for local communities.
Ship operators are bracing for months of uncertainty in the waterways where some 18% of global trade volumes crossed last year….
Houthis have attacked more than 50 ships since November, including a cargo vessel loaded with fertilizer that sank into the Red Sea and another that resulted in three deaths….
“It’s the first time that both [canals] are disrupted simultaneously so you have to plan way in advance where to send your ship and you pay a hell of a lot more regardless,” said Tim Hansen, chief operations officer of Stamford, Conn.-based Dorian LPG, which operates a fleet of 25 ships that move propane and butane….
“It is a watershed moment for consumers because they have been accustomed to globalization,” said Peter Sand, chief analyst at Norway-based shipping platform Xeneta. “They have been getting goods from everywhere at any given time, so it’s paramount to safeguard maritime supply chains.”
“Juggernaut” stock rally poised for correction
As for those stocks that are awaiting inflation reports, the Mag-7 led the way down today, though the major indices as a whole more-or-less held their ground, except the tech-heavy Nasdaq. In the interview below, Lance Roberts spells out how stocks and bonds are now perfectly poised for a correction, though he is not sure of the timing, but many significant indicators are saying “correction”:
While I won’t say when stocks are going to take the big plunge either, I think those betting high against volatility right now (a popular returned trade) will be stepping down from filet mignon to cheeseburgers soon.
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