Fed Uncertainty and Confusion Continues

The fallout from the Wall Street Journal story on Thursday suggesting the Fed could cut 50 next week continues.

I detailed what happened here

https://www.dhirubhai.net/posts/james-bianco-117619152_activity-7240355006942494720-Z9nk

Maximum Uncertainty

From the Fed's perspective, Friday's fed fund futures close was about the worst possible: 49% probability of a 50 bps cut/51% probability of a 25 bps cut (chart). This is literally one tick from maximum uncertainty (50/50).

About half of Wall Street will be disappointed/surprised if this holds through Wednesday.

The Fed designed forward guidance (them what will happen before you do it) to prevent this exact scenario.

So, expect one of two things ...

A story that "clarifies" how much the Fed will cut on the 18th. Probably Monday morning.

No clarity will lead to a discussion that forward guidance is dead. Markets will have to adjust to a world of less Fed clarity by putting larger risk premiums and higher volatility into markets that discount what the Fed intends to do. This means the funding markets.

I expect #1. But if we get #2, I hope Powell addresses it directly in his presser on Wednesday.

12-0

Powell wants a 12-0 vote for every policy decision. He is now working the phones by calling every FOMC member to "horse trade" into a 12-0 vote.

He believes that a 12-0 vote gives policy credibility. Dissents, in Powell's opinion, create doubt and uncertainty.

Powell explained this to David Rubenstein in July.

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From the raw transcript, I edited it for readability

7:58 Powell: The way it works is I talk to the other 18 participants regularly. I speak to them at least once ten days before the meeting and think about this three or four weeks before.

What should we want to achieve? What data do we need to see? How do we want to change our communications? All those things.

So, I talk to people, listen to them, and try to put together an answer that has broad support on the committee. So when we go into the committee on Tuesday morning [its start], I'm usually confident that I know where this will go.

8:55 Powell: These call calls are generally scheduled and go all day. The Friday before the meeting, I think I have 11 half-hour calls. We talk about the economy, we talk about very specific aspects of the economy, about our mandate, and then we talk about policy, so there's a lot to talk about. I take careful notes.

You can hear him explain it here.

https://youtu.be/4p7P-LdHYj4?t=473

Veto

Since Powell wants a 12-0 vote, he effectively gives everyone a veto.

See the chart above and the annotation about Waller. Chris Waller is arguably the most hawkish member of the Fed. So, if the Fed wants to cut, it can only go as far as the most hawkish member agrees.

The probability of a 50 basis point cut was 60% right before Waller spoke, and it was 20% after he was done. In other words, Waller left the strong impression that he was good with a 25-point basis cut, but no more.

The Fed has only seen two dissents in the last four years. Both in 2022 (highlighted). This is the smallest number in over 70 years.

Again, this is how Powell designed it.

So, as he explained above, when Powell went through his 11 half-hour calls yesterday, and the market was 50/50, he had a lot of "horse trading" to do before a decision could be made (a 12-0 voting agreement).

Then, certain reporters are viewed as "Fed whisperers" who can be called and told "blue horseshoe likes a <fill in the blank> cut" and let them write a story that "signals" to everyone what will happen at the meeting.

I expect this story on Monday morning.

If not, forward guidance may change and stay changed from now on, leading to more uncertainty and higher volatility. Powell will need to explain this on Wednesday.