#965 - Are Bonds Out of Step with the Fed? | With Jeffrey Snider

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0:35Hi, everyone. Welcome to the Real Vision Daily Briefing. We are looking at whether the bond market is out of step with the Fed today. Welcome to the show today. With us is Jeff Snyder, host of Eurodollar University. Hi, Jeff. It's great to see you. Hi, Maggie. Good to see you, too. So we're in the thick of earnings season. U.S. stocks did rebound from that post-Fed sell-off we've seen. And we've got them up pretty decent gains, over 1 % for the most part. Dows are just under that. But we have a couple of tech earnings out after the close. which we know can change sentiment very quickly. And we saw a lot of action in bonds, a 10-year dip to 3.87%, a one-month low, despite the fact that J-PAL seemed to take a March rate cut off the table.

1:23So let's start with the bond side of things. What do you make of this action we're seeing? Well, I mean, it's pretty interesting in the fact that, first of all, we're not that far away from the last bond rally, which just ended in late December. And usually what happens after a sharp rally, rates are going to go higher for several months, and we would expect that they would continue to do so. But over the last week, there's been a demand for bonds, not just in the United States, but around the rest of the world. We've seen rates dip. Even today, the 10-year got down, I think it was almost to 380, which would have been really close to the December low, which already makes you wonder, okay, what's really happening here?

2:01especially since, yeah, as you mentioned, Maggie, yesterday, Jay Powell, the Federal Reserve, tried to pour cold water all over the idea of rate cuts, and the market's just not buying it here. And so, again, that raises a number of questions. Okay, what is it the market's seeing that maybe Jay Powell is trying to cover up, or what is the bond market actually doing that maybe we're not seeing elsewhere in other markets like stocks? And, of course, we had a pretty big reminder yesterday that maybe the banking system isn't actually as resilient and strong. And you have to laugh here because the FOMC took that sentence out of their statement at the worst possible time.

2:39Not that they actually meant to, but it's funny how they take that statement out. And then the small community bank, or it's not really that small, but this community bank that basically nobody had ever heard of before shows up and says, you know what, we had a couple of bad loans and our loan loss provisions and commercial real estate increased ninefold. And all of a sudden it kicks off this major, major buzz all across Wall Street. And I think that's something that's on the minds of not just the bond market, but anybody who's been watching anything over the last couple of years. We know we have a major problem in commercial real estate.

3:12We're wondering when is that going to either go away? Is it going to be resolved positively? Or are we going to have to deal with maybe more banks having issues, liquidity, credit crunch, all of the negative, nasty side effects of that type of a situation. And so that's what the bond market is sort of hinting at here by breaking with the long run type and rallying not long after the last rally ended. And that's what really has our attention right at the moment. Yeah. So it's so interesting. And you're right. I think that Wall Street aware of it, it's interesting if you kind of click across the web, though, you would think that it would be getting bigger headlines.

3:52I mean, We've got so much else going on. The Fed, we have earnings coming out, especially those big MAG7. So that's sort of, I think, getting a lot of attention. And some of it, maybe because it's not a household name. So for those who aren't keeping up, or let's just sort of fill in the blanks in case somebody's been away from their screen and listening to this somewhere. So we had New York Community Bank Corp come out and basically, what, cut its dividend? And I mean, the stock tanked because it can't deal with the, it's experiencing the losses from commercial real estate. We've been in this extend and pretend period, kind of limping along, knowing these things were on balance sheets, but it wasn't having a material impact.

4:36You know, we had the Fed facility. Everything seemed like it was okay. And everyone was kind of moving along together, hoping to resolve it. But are we hitting, is the kind of rubber hitting the road here? Have we reached the end of Extend and Pretend? Is that what's going on? That's sort of the implication and sort of the important part from yesterday and today wasn't necessarily the announcement by New York Community Bank Corp. Because what they basically said was we had two loans that we had to reclassify. And, you know, New York Community Bank Corp itself is going up in tiers. It's becoming, you know, its assets are over$100 billion now.

5:12So it has to, it's playing this like we have to clean up our balance sheet and clean up our act because we're hitting the big time. And that's kind of how they're trying to play this entire, their earnings announcement. But most people looked at that and said, wait a minute, hold up here. This is supposed to be a major increase in charges from two loans. And of course, there's two different ways you can take that. You can say, okay, it was just two loans. It's just one community bank that's no big deal. Or you could say, wait a minute here. They had two bad loans that spiked their charge-offs by eight times.

5:44What about if there's three loans or four loans or five loans or six loans? And I think that was the more important part of this is the reaction across the entire marketplace. Because you're right, Maggie, we've been sitting here for however long. And it's understandable why people have completely forgotten about the banking system, because it's been that long. It's been almost an entire year since Silicon Valley Bank failed. And so for most people that don't pay close attention to this, they're thinking this is all just nothing. This is all just trivia. Who cares? The U.S. economy, haven't you seen the numbers lately?

6:14We had a banking crisis last year, and it didn't seem to make a dent in anything. So why do we care about one specific commercial bank? And the answer is, as you were alluding to, the reaction to the commercial real estate problem over the last year is diametrically the opposite of what it was in 2006, 7, and 8. Back then, you had a problem on your balance sheet. You just sold it. Get it off my balance. I don't care what it is. Get rid of it. And so we had this period where banks and financial firms and others were just selling assets willy-nilly because that's what you did. You got rid of the bad stuff.

6:47And having learned a small lesson from that period, the financial system this time is saying, wait a minute, we got all these bad assets on our balance sheet, but we're not going to sell anything. We're just going to sit here silent, quiet, and do nothing and just hope that it all goes away. The last thing we want to do is start to trigger the liquidations and fire sales. So we're just going to pretend that there's absolutely nothing wrong. And I think most of us have been sitting here waiting. We know there's something big wrong. We're just waiting for that one thing that forces someone's hand to reveal their hand.

7:22So that's the potential. I mean, it's just a short run right now. But the prospect here is that Silicon Valley Bank is just the first one that finally has to tip its hand a little bit and say, these are the bad cards. You mean New York Bancorp, right? New York Bancorp, sorry. Yeah, not Silicon Valley. Yeah, so that one's already gone. Yeah, well, that was what started. But I think there are two really important things here. And Gabrielle, you have, I don't know which one, if you want a specific one, but you sent over a couple assets and liabilities. And I want you to tell us what that is. I don't know which one, if it matters which one we put up, Jeff.

7:57We have. Yeah, the H8 statistics from the commercial banking system as a whole, this is across the entire U.S. commercial banking system. These are statistics that the Federal Reserve puts together. What we've been watching since August is that banks have been piling on cash. And, of course, mainstream analysts are saying this has to do with QT and the level of bank reserves, and that's just crap. That's hogwash. Banks have been piling on cash. In fact, New York Community Bank Corp even admitted that they've been doing the same thing, piling up cash in anticipation of something like this happening.

8:28So this shows that they're not alone. And the amount is just astounding. Since the latter weeks of August, it's about$430 billion increase in cash holdings by the aggregate banking system. And you have to ask, like bond yields going lower, how is that possible? What is it the banking system is doing and preparing for? because as you can see in the chart that Gabby's showing here, banks are certainly not expanding their balance sheets. In fact, they're doing the opposite. So are they hoarding cash? Does that mean they're not lending it if they're hoarding cash? They're not lending cash. They're not buying securities.

9:02They're not doing anything. You nailed it right on the head that Maggie said extend and pretend. Extend and pretend means just kind of sit there and play possum. Let's play dead and hope everything just magically fixes itself. Let's hope Jay Powell is right. We have a soft landing in 2024 that will allow us some more ideal conditions, maybe a couple of rate cuts, more disinflation. Therefore, we can start unwinding all of these major imbalances on our balance sheet and do so under ideal circumstances. And everyone's kind of been in cahoots on that, right? It's kind of been the accepted thing that we're all going to do it.

9:36And as you say, a reaction from the chaos and insanity that happened during the great financial crisis when the system almost broke. So now it's kind of like, let's have this be orderly and everyone hold tight until the conditions get better and it should be okay. The problem, and this is the point I wanted to bring up, and I love these graphics and we'll see if we can share these with you all. But I'm sure Jeff has it on your dollar university as well. The issue is, and this is, I think, what was scary with Silicon Valley Bank, is that that's all fine until someone blinks. And then there's that worry.

10:13And when I was looking a little more closely at banking, because I too, like everyone else, has been distracted by the Fed and tech earnings, when I started looking at that, I didn't realize that we had a Tokyo-based lender also tank. We had Germany, right? Deutsche Bank, I think AG come forward and say, now you start to see that everyone knows that there's been a problem, but what starts, is there a concern that we start to see this sort of building momentum and we lose that sort of tacit agreement to extend and pretend? Is that a risk here? I want you to know how tacit was that agreement. I think it was explicit, really.

10:55Yeah, so you're right. It was an order from the Fed. I don't know. Well, the Fed, the Treasury, I mean, Janet Yellen came out and said, we're having talks all the time. Regulators had regular meetings, very public meetings that were meant to assure the public saying, we've told all of the banks to work with your commercial real estate customers and make sure you can work everything out. I mean, it's everybody has done everything possible to, number one, not do anything. Let's just sit here and hope everything goes away. And number two, don't you dare sell anything because we do not want price discovery.

11:26We all know valuations are in the toilet, but we don't see market values because nobody's selling anything or practically anything. The markets are basically frozen. So don't sell. Don't do anything. Don't do any charge-offs. Don't shed any light on the situation because if you do, it might lead one person and then the next person. And the next thing you know, other people are being forced into something that we all are trying to avoid, which is a repeat of the, as you said, the disorderly unwind in the last time around. And that's that's what everybody's trying to avoid. But that doesn't solve the problem.

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13:12Yeah. But so what's happening from an economic conditions point of view? Because we do know the Fed has made a pivot. We know rate cuts are coming. Is there relief in sight? Can the economic conditions get here quick enough that we can prevent some sort of larger strain in the banking system because of commercial real estate? Well, I think, you know, go back to the original charts with the interest rates, I think one thing that we need to be clear on is what the markets are actually saying, being this inverted. And I know it's very easy and it's very popular to say, well, the market's pricing five rate cuts in 2024, or maybe it's six now, or maybe whatever.

13:52That's not actually what the market is saying. The market is in one or two positions, two camps, and they're polar opposites. The one camp is everything is fine, Goldilocks, soft landing, The GDP numbers are valid and everything's going to be great. And therefore, interest rates are actually going to go higher from here because higher rates are actually a good thing. So that's one side of the coin. And the other side of the coin are people are saying, a year from now, we're going to be talking about zero interest rates and more QE. It's basically an all or nothing proposition. Either we hit the soft landing and everything's great, or we run into some really serious problems.

14:28And the problem we have is that the market is increasingly moving into that other camp, the hedging camp, the holy crap things could go wrong camp. And the more the market moves in that direction, which it has been doing over the last week, the more you have to say, OK, what is it that's causing all of this anxiety and uncertainty? And the banking, you know, again, it's not about New York Community Bancorp. It's about exactly what we're talking about. And then in terms of economic circumstances, sure, the U.S. economy looks great, but have you seen the rest of the world? The rest of the world is a complete mess.

15:02Let's break that down. So especially when we're talking about real estate, let's go to China because we know we've got a commercial real estate problem. We certainly know that China has a massive real estate bubble that's been bursting, but it's hard to know what's really going on from your sense. Where is the Chinese economy? Well, the Chinese economy is in a really rough shape here. The real estate problem is behind everything. We don't really have enough insight into how that's going. We haven't seen anything catastrophic. I mean, repo rates have been relatively tame over there in China. And I mean, RemNinbi repo rates.

15:38So some of the financial statistics, they look relatively OK. But we know things are not going well. Evergrande was just forced into liquidation, which that ought to be fun because they're going to force all of these losses onto offshore creditors. And we'll see how that impacts the overall euro bond market. But that's still a future risk. The present tense risk where it comes to China, as you're showing on the screen here, the Chinese economy, despite the fact that Beijing has stepped up its support really since last summer, is not reacting to that support in any way, shape, or form. At most, you can say it has stopped falling in the way it was in the latter part of summer, but that's not the same as what was supposed to happen here, which is a relatively unambiguous rebound.

16:20Instead, the Chinese economy is languishing. We see all sorts of statistics that are among their worst in the entire series. If you go down a couple of charts to the retail sales, which is a really big one in China. Despite the Chinese efforts to really target consumer spending, despite base effects on some of the annual comparisons, you make the two-year comparison, you can really see it much better, like you see on this chart here. Chinese consumer spending is at rates that we have rarely seen in China. And that's despite all of the effort from fiscal stimulus, as well as targeted aid in the real estate sector.

16:57It's just not producing the positive impact that certainly authorities would hope for. And you have to, again, it raises all sorts of potential downside risk because you have to ask yourself, what is wrong with the Chinese economy that it's not responding to any type of government effort? And it just – it goes on and on, all the macroeconomic statistics from China, which are telling us about the immediate risk in terms of the economy. And then what does that mean about what might be happening inside the shadow parts of the system that we can't see as far as real estate, banking, and everything else?

17:32Yeah. So implications for exporting deflation, or are we worried about something more serious in terms of instability? What are the implications for the global economy if China can't get itself going? Yeah, sorry, Maggie. The direct implications are essentially merchandise trade because China has already suffered in terms of imports from the rest of the world. So the rest of the world has suffered from lack of Chinese demand. That's the easy one. The more complicated puzzle that we have to put together is where are the exposures? exposures because as you know ever grant had how many tens of billions in offshore debt and it's not just ever grant we have other other chinese developers and other chinese financial firms that have issued offshore debt so there are there's a quite a lot of chinese exposure around the rest of the world i think a lot of it's concentrated in japan so there are more more direct but more indirect sort of potential problems where we'll see how the ever grant liquidation goes but also exposure to the real estate sector in general, does that cause these other firms that are exposed around the rest of the world, Japanese firms, does it alter their behaviors such that it creates second and third order effects in other places around the world?

18:52Even if you're not taking, if you're not suffering direct credit losses, you're sitting there with questionable assets on your balance sheet, you're probably not going to be expanding your balance sheet and doing other things while you wonder what the downside case might be and all the stuff that's going on in China. So there's a lot of indirect consequences too. And on top of all of that, as you mentioned, what was the Japanese bank today? The Japanese banks are, we've got the Chinese real estate problem on this side. We've got US commercial real estate problem on this side. So even if everything goes relatively well from here, at the very least, these Japanese firms and firms around the world, banks and other financial firms, they're becoming more and more defensive.

19:34And that's not going to help the Chinese economy or the European economy or the U.S. economy, which is in really precarious shape here. Yeah, and somebody just asked if you had any reaction to the ISM. So it's interesting because I just had a long conversation with David Rosenberg, and you can look at certain pieces of data and feel good about the U.S. economy, or you can look at others and see trouble. And it's causing a lot of what on the surface looks like contradictory signals. signals. So ISM today, Doug asking, what's your take on today's ISM? I think it came around around 49. So it's still contracting, but it's up, right?

20:13So then people think, oh, that kind of feeds into the soft landing. So any thought on ISM and generally what's happening with the US economy here? Yeah, the ISM was 49. The new orders index, which is an important one, that was, I think, the highest in over a year. So you look at that number, you look at GDP, likely the payroll numbers, and you think the U.S. economy is weathering all of these major headwinds. And so the soft landing doesn't look probable. It looks like it's absolutely going to happen. And vast majority of the public, that's what they look at. They don't look at some of the details.

20:48So you look at GDP, you look at the stock market, you look at the unemployment rate, and you think everything's all, and then ISM comes out better than expected. And you think there absolutely is, at worst, a soft landing here, if not a no-landing scenario, low-landing situation. In fact, what did Jay Powell say yesterday at his press conference? He said, we've done it. We've got disinflation without creating any unemployment. We're geniuses here. And I think most people would say it kind of seems like he's right. Consumer price pressures are still there, but they're nowhere near as big and as heavy and as painful as they had been previously.

21:23And it doesn't appear as if the economy has suffered any significant damage for having gone through all of that. It's tough to argue against that position because so many of the statistics are looking that way. But as David said, and as you're alluding to, Maggie, if you look in certain other places, you can see the cracks forming. You look at, for example, nominal GDP, which quarter over quarter, that's been slowing down. And the nominal economy is going to be a big problem and big theme in 2024 because the nominal growth had covered up a lack of real growth and volume growth during the supply shock situation.

21:58situation. One of the other problems we're going to have is incomes. If you look at the JOLTS chart, which is, I think, down below GDP, yeah, that one. That one's a, when you look at that, I mean, just on its face, you say, holy crap, what's going on here? What it shows is that even though American businesses haven't been firing workers like we see usually in any recession, which is what most people associate with recession, they sure aren't hiring anybody either. So that's a concerning to me because it means there's a lack of opportunity, lack of income opportunities in the real economy for workers, therefore consumers.

22:34And then you have to wonder, what is it that businesses are seeing that they're slamming the door shut on hiring? Yeah, they're not firing anybody. They're not firing lots of people, though we have seen more layoff announcements recently in the month of January. Especially recently. Yeah, we've seen those picking up big time. Yeah. So, I mean, but before, I mean, you get before that, businesses have been adjusting their cost structure by not hiring people, which is in and of itself a recession signal, even if we haven't got the other part of that in terms of mass layoffs. So depending upon where you look, yeah, GDP was great.

23:11Payroll reports have looked relatively solid. But some of the other stats, which suggest that there's more going on than just what most people consume of in the public. If you look a little bit closer, it's not terrible. It's not awful, but it's like the banking system sort of moving in the wrong direction very slowly and incrementally. We're going to take another quick break to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing.

23:43Yeah, and I just want to point out so many people who have come on, and it was not popular or mainstream, but many people have been just saying they're still worried about banking. They just kept watching it, much like you do, including Sri, for those of you who are watching earlier this week, just said, listen, the banking system is not okay, despite what everyone is saying. So I want to get a couple questions, and I want to get your thoughts about Europe as well, but I want to get a couple questions in here because they're all so good. So the macro butler asking, are there risks of tailed auctions in the coming weeks?

24:20How do we need to think about treasury supply coming? Treasury supply doesn't matter. I know that's an exceptionally unpopular position, but if the last year didn't prove that beyond a shadow of a doubt, I don't know what will. The government sold an insane amount of debt last year, including new money that totaled about$3.4 trillion. And look at where prices are compared to when they started. In fact, yields are actually lower now than they were at the end of 2022 when this deluge really got going. So I'm not worried about auction supply. Usually that comes up when people are trying to explain why interest rates are rising at any given moment in time.