Fight and flight

Outlook:

My best typo ever last Friday-- that the “bong gang is complacent.” The word should have been bond, not bong. Microsoft Word doesn’t highlight or correct words that actually exist.

Today we get the Empire State survey and industrial production—too late to influence the Fed, proba-bly, but if IPI is high, as expected, GDP will get revised upward, perhaps as high as 5% for Q2. Yowza.

This is an Event-driven week, with the FOMC on Tuesday/Wednesday and the Yellen press conference on Wednesday. The Scottish referendum is Thursday, but polls don’t close until 10 pm local time so we will not get results until Friday morning. And maybe not until later in the day, if the vote is really close (as it was in Quebec in 1995).

Over the weekend the NYT reported that Fed Vice-Chairman Fisher, who spoke about financial stability at his confirmation hearings, will head a new committee on the subject. Considering that tapering ends in a month, it’s not too soon. Two big areas of concern that come immediately to mind are the US stock market and emerging market currencies, although the committee will no doubt look at moral hazard and other issues, too. Maybe we need an asset quality review in the US, too. The Fed will almost certainly decline to define or offer guidance on bubbles, which is probably a good thing (free markets and all that), even if burst bubbles are the primary source of instability. Bloomberg links the Fisher committee with the BIS report over the weekend noting the $1.4 trillion in investment in emerging markets that arose from the quest for yield after QE. Withdrawal of that money can cause financial instability in EM’s, including runs on their currencies. We doubt that the US will take responsibility (or action) for events in emerging markets. Investors are free to lose their shirts.

Of more immediate interest is guessing about the First Rate Hike, although the probability of the Fed announcing anything resembling a date or even changing the language (“considerable period”) is re-mote. We get the CPI on Wednesday, forecast at 1.9% y/y, not an Event. We could get nothing much from the Fed announcement (although the dots of the forecasts might be fun). Some speculate that Yellen was “preparing” the market with the comment at Jackson Hole that markets might be surprised at the pace of rate rises once tapering is over. We doubt it. In fact, if emerging markets continue to bleed investors and if geopolitical events continue to drive investors to the safe haven of the dollar and Treas-uries, it could be quite a while before we see 3% again. The dollar gets support from the divergence in the major world economies and from the Fed’s resolve to get rid of QE, but we don’t have a clear idea about the timing and pace.

Bottom line, we like the dollar but remember, it is always, by definition, vulnerable to an unhappy Shock or even a disagreeable comparison.