“Powell Put” Here to Stay

The “Powell Put” or the “Powell Pivot” is certainly alive and well as the Fed meets later this week to decide upon the direction of interest rates.

The “Powell Put” follows in the tradition of the “Greenspan Put” the “Bernanke Put” and the “Yellen Put.”

In layman’s terms, what the term means is that if the markets fall by too much, the Fed will swoop in and try to save the day, the month, or the year.

A “put” in options terminology is insurance against a drop in prices. Nowadays, the “Powell Put” is the market’s insurance that the Fed will act to stimulate the markets if necessary.

Powell was initially determined to “normalize” rates and stayed on course until the the end of last year. But then markets came within a hair of falling into a bear market and Powell finally got religion.

The Fed’s been on pause ever since but is in all likelihood going to start cutting rates again, starting this week. In fact, Powell recently testified before Congress that he was prepared to cut rates this month due to slowing global economic growth and ongoing trade wars.

There are two main ways the Federal Reserve can unleash dark money into the financial system. One is by keeping interest rates (or the cost of money) low or at zero percent. The other is through quantitative easing (QE) or bond-purchasing, where the Fed creates money electronically and uses it to give to banks to buy Treasury or mortgage bonds from them.

Reducing the cost of money, or interest rates to zero, was done for the first time by the Fed in the wake of the financial crisis. The Fed did this supposedly as an emergency measure to inject money into the system because banks had stopped lending.

In addition, QE was enacted because interest rate policy wasn’t effective enough. Again, supposedly, it was supposed to be an emergency measure.

Powell had previously talked about the need to give the Fed “enough ammunition to fight the next crisis.” The size of the Fed’s balance sheet would have to be reduced enough to provide it enough room to grow if needed.

But we saw how the stock market reacted when Powell said QT would run on autopilot. Those plans were shelved. Now the Fed is leaving the balance sheet at a much higher level than it previously envisioned. Quantitative tightening (QT) is scheduled to end in September, far in advance of original plans.

We’ll see if the Powell says anything about future plans for the balance sheet this week.

But the Fed won’t be reducing the size of its balance sheet as long as economic headwinds from around the world continue. That in turn, means dark money will remain available to boost markets.

Federal Reserve Bank of San Francisco President Mary Daly has actually suggested that the Fed could decide to use its balance sheet as a routine part of how it guides the economy, not just as a last-ditch measure to deploy in emergencies.

That means what was once supposed to be an emergency measure could become just another regular policy tool if normal interest rate policy isn’t enough to stimulate a non-responsive economy.

We’ll have to wait and see if this idea gains traction within the Fed. Either way, reducing the balance sheet to “normal” levels is no longer a priority for the Fed.

Aside from the balance sheet, New York Fed President John Williams recently hinted at a possible 50-basis point rate cut, which equals two normal rate cuts of 25 basis points.

Last Thursday, he told a research conference audience in New York that the Fed’s most effective strategy is to cut rates when it first sees trouble.

Williams said, “When you have only so much stimulus at your disposal, it pays to act quickly to lower rates at the first sign of economic distress.”

Wall Street greeted his remarks with a market rally because investors interpreted his comments as meaning he supported a 50-basis-point rate cut at the upcoming meeting.

Williams compared cutting rates sooner rather than later to a vaccination, saying, “It’s better to deal with the short-term pain of a shot than to take the risk that they’ll contract a disease later on.”

Fed Vice Chairman Richard Clarida told Fox Business that he agreed with Williams, which further lifted the market. However, hopes for a 50-basis-point rate cut were then dashed by a New York Fed spokesman who later called Williams’ comments theoretical.

The markets really want a 50-basis-point rate cut. But I’m unconvinced there will be that drastic a cut at next week’s meeting. But if there is, it would boost markets and create a global easing possibility, as dark money follows the Fed’s lead. Anything short of that would likely send the market down at the beginning of August.

Either way, the Fed is completely abandoning its rate hike cycle.

But it’s not just the Fed that is easing up. Central banks around the globe have been re-calibrating their policies to reflect the weaker economic environment.

As one Wall Street Journal article recently reported, “Central bankers have geared their messages toward pausing on tightening steps rather than imminently launching new stimulus.”

Central banks from South Korea, Malaysia, Indonesia and Canada, who all raised rates last year, are now questioning such plans. The Bank of Japan and European Central Bank have also indicated that their negative rates are here to stay for the foreseeable future. And this week the ECB pretty much guaranteed additional easing.

The truth is it’s all about the $21 trillion of dark money fabricated by, and dispersed from, the world’s major central banks. The volatility periods, including last year’s nearly 20% correction, are related to the fear that dark money supplies will go away.

These factors will keep sparking intermittent fear and volatility alive — but dark money collusion will not be going anywhere. You can expect major central banks to cut rates and/or resort to additional QE.

Once again, that means dark money will continue to be available to markets.

The fact is, dark money is the #1 secret life force of today’s rigged financial markets. It drives whole markets up and down. It’s the reason for today’s financial bubbles.

Dark money rules the world, and it could keep the bull market running longer than most people expect. The eventual turnaround could be ugly, but I don’t think we’re at that point yet.


Nomi Prins
for The Daily Reckoning

The Daily Reckoning