November 28, 2016
I think it is safe to say that while Trump may be trying to lean back towards the center on some of his more Inflammatory positions, one thing he won’t be backing off on is his intent to BUILD America Great again…After all, he IS a construction and real estate developer, and together with the congressional “spend now, pay later” fiscal orgy we’ll probably be witnessing come January, I continue to think we are going to see the economy ramping up across the board…which, with each passing day almost, is being reflected more and more in a number of market areas.
You’re certainly aware of what Stocks and Bonds have been doing…but take a look at these two construction related commodities…
And in Lumber you have an industry that has lost enormous percentages of production capacity since the Great Recession…Put that together with what Trump wants to do…which can only mean massive stepped up demand…and you have the recipe for sharply higher prices in the year ahead.
All things considered, I cannot imagine that this previously unexpected demand for a NUMBER of construction related commodities will be doing anything but strengthening as we move through 2017…and that INFLATION like we have not seen in years, if not decades, may easily be the result…
So when I look at Copper, Lumber and several other commodities I watch that are looking very much the same...and beginning to accelerate…it definitely leads me to believe that short term rates are in the process of doing exactly that as well…that is, accelerating higher…DO UNDERSTAND: THE FED WAS NOT COUNTING ON ANYTHING THAT IS HAPPENING IN THE MARKETS…They weren’t planning on a roaring stock market. They weren’t planning on commodities taking off and the ensuing PRICE INFLATION that will likely be the result…They weren’t planning on what I believe can ONLY be a severely tightening job market (roads, bridges, schools, infrastructure, etc. DON’T build themselves)…and as I’ve noted before, all of this stimulus and ramped up economic activity will be converging with a jobless rate that is already quite low at 5%...and I therefore find it hard to expect anything other than WAGE INFLATION as well…
Simply stated, THE FED WAS NOT PLANNING ANY OF THE ABOVE AND AS I HAVE WATCHED THE MARKETS UNFOLD SINCE THE ELECTION, I CAN ONLY CONCLUDE THAT THE FED ALREADY IS BEHIND THE CURVE…AND THAT SOMEWHERE DOWN THE ROAD WE WILL SEE SOMETHING WE HAVE SEEN AT TIMES IN THE PAST…THAT BEING A FED STATEMENT THAT GOES SOMETHING LIKE: “CONDITIONS APPEAR TO BE BETTER THAN THE BOARD HAD BEEN EXPECTING. PRICE AND WAGE PRESSURES APPEAR TO BE ACCELERATING AND IT MAY BE NECESSARY TO INCREASE RATES FASTER THAN THE BOARD HAD PREVIOUSLY ANTICIPATED.”
As I’ve written before, every Fed governor will readily admit that they DON’T know what is coming in the economy, that like everybody else, they DO get it wrong and they DO, not infrequently, find themselves having to slow down…or speed up…their monetary policy moves…And one perfect example (detailed below) would be the way it all happened the LAST time the Fed went through a rising interest rates cycle…
The last time the Fed initiated a rate rising cycle was at their June, 2004 meeting…And they kept raising rates until their June, 2006 meeting, going from a Federal Funds rate of 1.00 % all the way up to 5.25 %...meaning they pushed rates up 4.25% over a 24 month period.
I can assure you that when they did start tightening, at 1.00 %, NOBODY (not even anyone at the Fed) was expecting rates to be at 5.25 % when the Fed was finally done…And my guess is, I think were about to see something of the same over the next few years…that we are about to see rates go up faster and bigger than the markets (and all the genius analysts) are currently thinking…
Here’s how those two years of rising rates actually played out…
June - +1/4
Aug - +1/4
Sept - +1/4
Nov - +1/4
Dec - +1/4 up 1.25 % after 6 months
Feb - +1/4
Mch - +1/4
May - +1/4
June - +1/4 up 2.25 % after 1 year
Aug - +1/4
Sept - + 1/4
Nov - +1/4
Dec - + 1/4 up 3.25 % after 18 months
Jan - +1/4
Mch - +1/4
May - + 1/4
June - + 1/4 up 4.25 % after 2 years
The fact is, ONCE THE FED DID START RAISING RATES, THEY RAISED THEM AT 17 STRAIGHT MEETINGS, usually at two month intervals…BUT ON FIVE OCCASIONS THEY HELD SPECIAL MEETINGS TO RAISE RATES IN BACK-TO-BACK MONTHS.
Once again, I will assure you that NOBODY in the investment community (including the Fed itself) had any idea that rates would be going up that much, or that unrelentingly, when the Fed took their first step towards tightening in June, 2006…And I think it will be no different this time…To be clear, the June, 2017 Eurodollar currently shows about a .17% (less than a quarter percent) increase in rates between now and next June…which, when I consider rate increase histories like the one above, and others I have observed in my 36 years in this chair…AND, to reiterate, what I think we are going to see coming out of Washington…I think the market’s (and analyst’s) perception that rates will not even be a quarter percent higher next June is one of the most outrageous futures market “valuations” I have ever seen.
I THINK RATES ARE GOING UP A LOT BIGGER AND FASTER THAN THE MARKETS ARE CURRENTLY REFLECTING AND CONTINUE TO RECOMMEND BUYING EURODOLLAR PUTS.
I firmly believe this is not the time to be “waiting to see what will happen”. The markets have only just STARTED responding to the new dynamics of a Trump-Republican Congress unification…which again (and again and again), THE FED WAS NOT ANTICIPATING…and in plain English, I DON’T think we will EVER see rates this low again (in my lifetime anyway), and it therefore follows that we will never see an interest rate trade like this again…so I repeat: NOW IS THE TIME TO BE ACTING…NOT WATCHING.
Here is the option I am buying at current levels…
Lots of economic numbers coming out this week…and I think any one of these indicators could be the catalyst that sends this market truly STRAIGHT DOWN. As I keep saying, THE ECONOMY IS NOT WEAK. All those cars and trucks on the highways are indicative of production AND consumption…ditto the packed airports…the construction going on EVERYWHERE, etc…The Atlanta Fed’s model already is pegging 4th quarter GDP at 3.6%...which is NOT shabby…and like I say, 2017, I believe, can only be bigger…a LOT bigger I think.
Give me a call. If you have the risk capital, and the temperament for this, I encourage you to act now.
All option prices in this newsletter include all fees and commissions.
The author of this piece currently trades for his own account and has a financial interest in the following derivative products mentioned within: Eurodollars