Is China the catalyst to Buy the Fact?

Macro Perspectives: Thu 17 Mar 22

The Fed started the liftoff in interest rates, as expected.

In normal times, an interest rate tightening cycle is intended to cool an economy that's running hot, to safeguard against a good economy turning into an inflation problem.

In this case, the Fed is just beginning to normalise policy, from emergency/crisis levels (i.e. zero interest rates, plus QE).  Ideally, coming out of the crisis, they would want to get rates back to the "neutral level" (which means neither accommodative nor restrictive...2.5%-3.5%, historically), before having to deal with the challenge of cooling an economy.

But they've waited too long, in this case - they are already dealing with a hot economy and an inflation problem.

With that, for the first time ever the Fed is starting 8 percentage points in the hole, against inflation.

As we discussed in these notes, if we look back at the inflation bouts of the 70s and early 80s, both times the Fed had to ratchet up the Fed Funds rate, to above the rate of inflation to finally win the battle.

They have a long way to go.

With that, the Fed started taking steps yesterday, setting expectations for a more aggressive path, with a higher ending point (now projecting close to 3%) - putting the Fed closer to what the interest rate market expects for the path of rates.

What does that mean? The market was pricing in seven, quarter point rate hikes this year. Now the Fed is too.

So, if the difference between the Fed projections and the market projections represented the market's view that the Fed was making a policy mistake - then the closing of this gap should represent a reduced risk of a policy mistake.

Is that why stocks rallied in the afternoon? Maybe.

As we discussed yesterday, coming into this big Fed meeting things were setting up for a "sell the rumour (assume the worst), buy the fact (rational)" scenario - this appears to be playing out.

But, we also had a very big catalyst for markets in the morning: China.

Late last year, the Chinese government waged a war against its own technology giants, and (maybe more so) against U.S. regulators of U.S. listed Chinese stocks. It started with the Chinese ride hailing company, Didi. It went public last June, as one of the biggest Chinese share offerings in the U.S., ever. Immediately, the Chinese government started harassing the company for a number of alleged violations.

But with over $1 trillion of Chinese companies on U.S. exchanges, it seemed to be more of a "shot across the bow," related to the U.S. SEC's new effort to crackdown on the lack of reporting accountability from Chinese companies.

By November, Didi asked to delist from the NYSE (with plans to move the listing to Hong Kong). Coincidently, the tech-heavy Nasdaq topped just three days prior...

The future of Chinese companies trading on U.S. exchanges has since been in question - including some of the hottest technology stocks in the world (Alibaba, JD.com ...). 

Going into yesterday morning, we had some news out of China that may have marked an end to the Chinese government sabre-rattling. China "vowed to keep its stock market stable and support overseas share listings" - Alibaba ended the day up 36%.