Well, I did it. I actually read the entire 15-page document containing the minutes from the Federal Open Market Committee, after its release on Wednesday.
The "Fed minutes" have historically been relevant to the equity and fixed-income markets, so I thought I would dive in. The major U.S. equity markets barely moved after the release of the minutes, somewhat surprisingly to me, but bond yields on the 10-year U.S. Treasury did decline after the minutes were released, with that yield quoted at 1.55% after holding at 1.58% before the release.
My key takeaway is this: It was a bearish report for stocks and a bullish report for bonds. So, Wednesday's post-release action seemed as if the market was getting it half right. In no way, shape or form did the FOMC commit to more rate cuts in 2019 or at any time in the future.
The FOMC did note that Fed Funds futures markets were predicting a decline of 60 basis points in 2019 (including the 25 basis points that the FOMC already enacted) and 35 additional basis points in 2020, but, again, the language in the minutes was predicated completely on flexibility.
To wit:
"Most participants viewed a proposed quarter-point policy easing at this meeting as part of a recalibration of the stance of policy, or mid-cycle adjustment, in response to the evolution of the economic outlook over recent months. A number of participants suggested that the nature of many of the risks they judged to be weighing on the economy, and the absence of clarity regarding when those risks might be resolved, highlighted the need for policymakers to remain flexible and focused on the implications of incoming data for the outlook."
That's the language that caused the market to freak out after the conclusion of the meeting itself on July 31, and it was quite apparent that flexibility was key in the process of actually making the rate-cut sausage itself.
Why was the statement bullish for bonds? Because the FOMC seems to have no clue that the fact that they are, effectively, re-initiating purchases of bonds, is one of the factors driving up the prices (and pressuring yields) on those bonds themselves.
"Effective August 1, 2019, the Committee directs the Desk to roll over at auction all principal payments from the Federal Reserve's holdings of Treasury securities and to reinvest all principal payments from the Federal Reserve's holdings of agency debt and agency mortgage backed securities received during each calendar month. Principal payments from agency debt and agency mortgage-backed securities up to $20 billion per month will be reinvested in Treasury securities to roughly match the maturity composition of Treasury securities outstanding; principal payments in excess of $20 billion per month will continue to be reinvested in agency mortgage-backed securities," to Fed document reads.
There has been some discussion of the role of foreign countries in the U.S. Treasury market this week as Japan passed China in the list of largest foreign holders of U.S. Treasuries. The difference between the holdings of the two Asian countries is negligible; both own about $1.1 trillion.
Well, now that QT (quantitative tightening) has officially ended and the New York Fed is reinvesting again, Uncle Sam's holdings of U.S. Treasuries are once again growing. Those holdings, as per the N.Y. Fed's website, amounted to $1.94 trillion as of last week.
So, while FOMC members noted the recent declines in long-term interest rates around the globe, they seemed oblivious to the fact that they might be complicit in those declines. There was language in the minutes indicating that some of the more dovish members proposed a more rapid reduction in the Fed Funds rate in an attempt to re-inflate yield spreads, which the committee noted were at levels representing the bottom decile of yield spreads recorded since 1971.
Translation: The yield curve has inverted because of massive pressure on the long-end, and we are going to address that by lowering the short-end. Come on, FOMC. Stop ignoring the root cause of the Treasury bubble. Yourselves.
But the U.S. Treasury gravy train is not stopping anytime soon. I don't foresee an end to this rally in global bond markets.
There is a point, however, as I noted in my Real Money column last week, at which low Treasury yields spook the stock market. I identified that point as a 1.50% yield on the 10-year U.S. Treasury, and I am sticking with the calculus.
The problem, if you read the FOMC's minutes, is that there is absolutely no indication that the committee is even aware of that line, let alone worried about it.
That has to scare equity holders, and it has scared me out of stocks completely. A 1.50% yield may be the line for the U.S. 10-year, but with Germany, France, The Netherlands and Switzerland joining Japan in negative territory on their countries' respective 10-year bond yields (Spain and Portugal are also quite close to negative yields) it is clear that the line is illusory.
Bottom line: Lighten your exposure to stocks here, and don't even consider selling your bonds.
