MAGA Got Mauled

Today the yield on the central benchmark security of the entire $90 trillion global bond market, the 10-year US Treasury note, hit an all-time low of just 1.31%.

And that single, incongruous data point alone tells you that MAGA is a preposterous pipe dream: It bespeaks not of the Greatest Economy Ever, but of a financial malignancy that is devouring the very foundations of capitalist prosperity in America.

Up against those corrosive forces, the Donald’s unhinged boasting, careless misreading of the facts and counter-productive fiscal and trade war policies don’t have a snowball’s chance in the hot place of even improving upon the badly impaired economic fundamentals he inherited, let alone fulfilling the fantasies that continuously erupt from the his twitter keys.

In the first place, the underlying rot which is and will make a mockery of MAGA flows from fact that the 10-year UST yield is a creature of the Fed’s massive falsification of financial asset prices. The resulting systemic and long-accumulating distortions have, in turn, fostered rampant front-running and repo-funded speculation in the bond pits that amplify the initial mispricings resulting from massive central bank bond-buying.

Moreover, these deep pricing distortions in the sovereign debt markets then cascade through the entire financial system, fueling superheated bubbles and vast misallocations all along the way.

That is, the badly mispriced benchmark bond at 1.31%—and which was only slightly less so at 1.60% a few weeks ago and even 2.35% two years ago—triggers a continuous hunt for yield among asset managers, which, in turn, causes underpriced capital to flow into every nook, cranny and dark place of risk in the entire financial market.

Accordingly, there are Fed-improvised explosive devices (FIEDs) buried all over the financial system that are invisible so long as the simulacrum of business expansion persists, but which will erupt upon even moderate shocks to the main street economy.

For example, the $300 billion of cheap debt and preferred equity capital that has flowed into the 8 million barrel per day shale patch, which is profitless and cash-flow depleted, will plunge into default and crisis if oil drops by even another $10-15 per barrel.

Stated differently, today’s 1.31% yield is a flashing warning sign that the Fed and its fellow-traveling central banks around the planet have strapped a financial suicide vest on the main street economy and Wall Street, too.

And the term “suicide vest” is no rhetorical exaggeration. After all, that 1.31% yield measures the nominal dollars the bond holder gets for a year of risk and outboarding of his money. That means when you subtract the running (year-over-year) core CPI (less food and energy) of 2.26%, you get the absurd condition that the real yield on the world’s fulcrum security is negative -95 basis points. 

In a word, there ain’t no known financial universe in which that makes an iota of sense. Long-term lenders must be paid for the time value of their money and compensated for the inflationary erosion of their principal while the loan is outstanding.

Therefore, in an honest and rational world, the failure to meet these conditions–like at present—would result in a complete breakdown of bond markets: Loanable funds would simply dry up or go into hiding under a mattress.

At length, of course, this implicit capital strike would end via surging rates which would bring funds out of hiding and back to the bond pits, where supply and demand would work their economic magic of discovering the market clearing price (yield).

What we have now and which crystalized today, by contrast, is a systematically falsified market that is essentially cleared by the administered edicts of the central banks and the herky-jerky thrashing about of leveraged bond speculators making bets on what the central banks will do next.

In this case, they believe that even more rate cuts are just around the corner, as reflected in the futures market. So very soon money market rates of less than 1.0% (after at least two rate cuts that are already mostly priced-in) will make repo-financed speculation in the 10-year note even more profitable—so the smart money is energetically piling onto the next Powell Pivot.

Thank you, Jay, for being such a weak-kneed tool!

Never has making arbitrage profits been so easy as it is for today’s Fed front-runners who know that the ship-of-fools domiciled in the Eccles Building are petrified of even a 10% stock market correction and will soon be announcing an excuse—in this case, fighting the Covid-19—to crank up the printing presses.

The implications of this central banking madness cannot be gainsaid. It does not give financial rationality even a fighting chance.

When you set aside the recency bias of Wall Street’s self-serving narratives, in fact, even a fleeting glance at the history of bond pricing tells you all you need to know.

That is, we are at the top of a record 127 month business expansion with the U-3 unemployment rate at a 50-year low and the real yield on the benchmark bond stands at negative -95 basis points.

Yet prior to the Keynesian coup at the Fed after 1987, there wasn’t a text book written that did not hold that both nominal and real bond rates would be significantly elevated at the top of the cycle owing to the pressure of expanded demand on available sources of funds.

So if you posit the undeniable inflation rate of @2%, the 10-year yield at the tippy top of the business cycle should be 4.5% or better—especially given the $1.2 trillion that Uncle Sam expects to drain from the bond pits in the year ahead.

This means, of course, that today’s 10-year UST and the whole flat as a board yield curve connected to it, has nothing to do with economics; it’s off by 400-500 basis points of economic rationality.

It also means that the cohort of talking heads who claim that the bond market is smarter than the stock market, and that today’s plunging bond yields forecast a weak, recessionary economy around the bend, are caught up in their own bond market bubble.

To be sure, there is surely a faltering recessionary economy dead ahead, even if the Covid-19 is suddenly and miraculously arrested and the accelerating global supply chain breakdown is stopped dead in its tracks.

But that isn’t what the bubble-ridden bond market is discounting. What’s actually at work is a financial Frankenstein of the central banks’ own creation.

Over the last several decades but especially since the financial crisis, they have fostered an endless sea of speculative capital and an army of carbon-and-silicon based speculators who cause it to slosh around from pillar-to-post in the financial markets in search of trading profits and economic rents that would not be available in a healthy system based on financial discipline and sound money.

So the graph below (which lags today’s rock bottom 1.31% by a couple of days) does not convey a sequence of economic and financial cycles at all. Instead, it represents the final apotheosis of Keynesian central banking and its now complete destruction of honest price discovery in the bond pits and the broader financial system which surrounds them.

Needless to say, that underlying condition trumps, as it were, every one of the phony U-3 unemployment rates that the Donald rattles off at his stadium rallies.

What the chart actually shows is that the bond market and by extension all financial asset classes upon which it impinges is slowly being poisoned by the rogue central bankers who are now running the world.

10-Year US Treasury Yield, 1962-2020

In the chart below, you see the poison at work. As the blue line continues to plunge toward the lower-right of the graph, the gap against the running inflation rate (red line) grows ever wider.

And that growing wedge is exactly the instrument which will drive the world’s restless sea of speculative capital into the blow-off speculative tops that will eventually implode from their own unsustainable irrational exuberance.

And when they do, the Donald’s stadiums will become as empty as his claims of MAGA.

10-Year UST Versus Year-Over-Year Inflation Rate

For want of doubt, here is what the world looked like 60 years ago:

  • In January 1963, when the recovery from the 1960 recession was gathering force, the 10-year yield stood at 3.87% versus a running inflation rate (CPI) of 1.33%, generating a real yield of 254 basis points;
  • By January 1966 when LBJ’s guns and butter economy was booming, the bond yield had risen to 4.69% versus inflation at 1.92%, generating a real yield of 277 basis points;
  • Even at the very top of the 105 month long business expansion as the recession was incepting in January 1970, the bond yield of 7.76% still stood above the accelerating inflation rate at 6.16%, generating a real yield of 160 basis points.

The point is, today’s negative real yields are not some temporary aberration or novel evolution of the bond market. They are a screaming neon sign reflecting the central bankers’ destruction of rationality, discipline, stability and sustainability in the entire financial system.

In that environment, the passage of time is actually the mortal enemy of MAGA. That because with each passing month and each new Fed “accommodation” to the latest hiccup in the stock market, the underlying speculative disorder in the system deepens and intensifies.

Ironically, the Donald has embraced the hideously inflated stock market as a vindication of his policies and leadership brilliance. But today’s bond market plunge is a potent reminder that the stock market embodies the great bubble in modern history, and that Covid-19 might finally be the Black Swan( Bat) that brings it tumbling back to earth.

After all, 1900 Dow points in just two trading days may finally be the dip that destroys.

In any event, there can be no doubt that the Wall Street narrative has been hopelessly corrupted by the current rotten regime of Keynesian monetary central planning. No one in there right mind should think that easing already rock bottom money market rates by 25 or 50 basis points can have any impact whatsoever on reversing the rapidly spreading economic damage from the unraveling of the global supply chains.

Yet scratch a Wall Street economist and you will get drivel like the indications below. To wit, more money pumping can’t hurt—-so just give it another go!

Recent global developments, including the more rapid spread of the coronavirus outside of China, make it more likely the Federal Reserve will be forced soon to cut interest rates to respond to growth concerns, according to economists gathered for a top policy conference on Monday.

“I think they’re going to have to go,” said Carl Tannenbaum, chief economist at Northern Trust.

“Sitting still would be seen as being tone-deaf,” Tannenbaum added.

To the contrary, nothing could be more wrong-headed. The impending turmoil is not owing to the Covid-19 per se.

It’s due to the rotten edifice of finance that has metastasized over the last decades owing to the assumption that the only purpose of financial asset prices is to give the Fed something to manipulate.

That they have done, heedlessly and persistently.

The very idea, in fact, that further destruction of what remains of interest rates amounts to a “cheap insurance policy” tells you that what lies ahead is the very opposite of MAGA.

Former Minneapolis Fed President Narayana Kocherlakota argued in a Bloomberg Opnion column that the Fed should not wait even until the March meeting to cut interest rates of possibly 50 basis points.

“The virus could result in a significant worldwide economic slowdown” and a rate cut is “a cheap insurance policy for the economy that the Fed shouldn’t pass up,” he said.