Wall Street Breakfast: Accelerating the QT Engine
Run the QT engine
As the fallout from Jackson Hole continues to ripple through markets, investors have their eyes on more drama emanating from the central bank. The Federal Reserve is expected to accelerate its quantitative tightening this week (QT) program by accelerating the pace at which it unwinds its balance sheet. The move is a sharp reversal from pandemic-era bond buying, which has seen the central bank nearly double its balance sheet to nearly $9,000,000 from $4.2 billion in the past two years.
A bigger picture: Unlike the big rate hikes broadcast by the Fed – which quickly captured investors’ attention – QT is a more opaque way to tighten financial conditions. Note that the central bank is not selling its Treasury holdings outright, but rather letting them mature to reduce its balance sheet. After the first few months at a slower pace, the monthly caps for the offloading of treasury bills and mortgage-backed securities are expected to double to $60 billion and $35 billion, respectively, from the maximum combined rate. $50 billion the last time the Fed cut its balance sheet in 2017-19.
The whole thing is a bit of a complicated accounting process, involving settlement windows and repayment caps, but at a basic level it ultimately reduces the supply of bank reserves and drains money from the financial system. Some safety valves have been put in place this time around, such as the Standing Repo Facility, after chaos in the repo market caused the last QT program to end early in 2019. The new facility will allow primary traders to borrow more reserves from the Fed against high rates. -quality guarantees, but some warn that this may not be enough to avoid liquidity problems and could complicate Chairman Powell’s plan to raise rates and control inflation.
Comment: “I don’t think there is an appreciation of QT, by the markets or the Fed,” said Solomon Tadesse, head of North America quantitative equity strategies at Societe Generale. “At the end of the day, if QE matters, so will QT. It might not be totally symmetrical, but there will be a significant impact.”
The housing market is in focus at 9 a.m. as the S&P CoreLogic Case-Shiller National Home Price Index reveals trends for the end of the second quarter. The June data will highlight single-family home resales in 20 metro areas across the country at the start of the typically warm summer buying season. Many have weighed on the industry recently, especially as the Fed continues its aggressive rate hike cycle, although some say the fundamentals are still intact despite the current volatility.
Quotation: “We will always have, even for contracted deals, a very high cancellation rate. It’s just hard to get deals done because the economy is [in] a remarkably uncertain time,” noted Redfin (NASDAQ:RDFN) CEO Glenn Kelman. “In 2007, we predicted there would be a crash. We were selling houses to people who couldn’t afford them, when they couldn’t even make the first mortgage payment. And that’s just not the case. Right now there are trillions of dollars and people buying homes have great credit scores. »
Average mortgage rates hit 5.2% in the second quarter, according to Fannie Mae, and while that’s a significant increase from the 3.2% seen in the first week of January, they remain low by historical standards. Additionally, mortgage rates are expected to decline next year, returning to an average of 4.5% in 2023.
Correction? Most concerns in the housing market revolve around whether the United States plunges into recession. In this case, Moody’s Analytics projects that real estate prices will fall by 5-10% and that in 183 overvalued areas, properties could collapse by 15-20%. It comes as sales of new single-family homes fell to their lowest level in nearly seven years in July, falling 12.6% to a seasonally adjusted annual rate of 511K. (2 comments)
Trouble is brewing in Pakistan, although the country has been able to get help from the International Monetary Fund. The worst monsoon rains in decades have inundated the country, with almost a third of Pakistan under water, countless houses washed away and crucial farmland destroyed. The floods even killed more than 1,000 people and affected more than 33 million people – or one in seven Pakistanis – according to the National Disaster Management Authority.
Instantaneous: The natural disaster weighed on the economic prospects of Pakistan, which is already suffering from high inflation and a political crisis. Soaring food and fuel prices have seen inflation hit 45% in the past week, while the rupee hits record highs against the dollar and foreign exchange reserves erode. Adding to the instability, Prime Minister Shehbaz Sharif recently succeeded arch-rival Imran Khan, who was ousted in April, although new elections are due to be held by the second half of next year.
The latest IMF program, one of a dozen since the 1980s, had repeatedly stalled under the Khan government, which opposed unpopular loan conditions like austerity measures. However, the Washington-based institution has shifted its stance in recent months, with the Sharif government rolling back energy subsidies and imposing new taxes. A further tranche of $1.1 billion was released on Monday evening, while the country’s bailout package was increased to $6.5 billion.
Outlook: Many economists have warned that Sri Lanka could have been the first domino to fall into a global economic crisis that is expected to envelop many poorly managed developing countries. While Pakistan appears to have avoided a threat of default, things could fall back if it fails to implement the corrective policies and reforms that remain essential for economic stability. Other South Asian countries like Bangladesh and Nepal are also struggling, and any missteps could spell trouble in emerging markets.
U.S. airline sales have fallen significantly in the last week of data tracked by Bank of America, and the team believes that if the weak bookings aren’t reversed over the next couple of weeks, that would be more indicative of a underlying demand problem and would create risk for the current Q3 outlook.
Statistics: Bookings were down -23.6% from the level seen in 2019 for the week ending August 21 from the level of -9.3% the previous week. System volume was down 23.5% from 2019 and prices were down a slight 0.1% from pre-pandemic levels.
“We usually only see this kind of weekly change during the holidays, so the change is surprising,” noted BofA analyst Andrew Didora. “The only offset issue we found was that in 2019 Hurricane Dorian was approaching the United States in late August, which may have pushed some bookings forward.”
On guard: American Airlines (AAL), Delta (DAL), Southwest (LUV), United (UAL), JetBlue (JBLU), Spirit (SAVE), Hawaiian Holdings (HA), Alaska Air (ALK), Allegiant Travel (ALGT), Mesa Airlines (MESA), SkyWest (SKYW), Sun Country Airlines (SNCY) and Frontier Group (ULCC). (60 comments)