Labor markets remain stronger than expected, right up through this morning’s Manpower survey for next quarter. Inflation risks remain elevated, with estimates of 1.5% PPI and 0.6% CPI the consensus for Thursday and Friday, and CPI core moving higher as well. While several funding spreads have widened vs. fed funds, absolute rates for reasonable quality mtgs. and corp. bonds are down- what the Fed calls an ‘easing of financial conditions’ for this component. And removing the stigma from using the discount window will ease year end issues.

A 0.25% fed funds cut and 0.50% discount rate cut are priced in for today’s meeting, and more cuts are priced in for future meetings. At the same time the balance of risk as highlighted below, with those cuts priced in, seems tilted towards inflation.

Conclusion:

Those closest to the Fed expect a 0.25% cut in the fed funds rate and a 0.50% cut in the discount rate. They see the Fed’s motivation as fear of the balance of risks swinging sharply back towards ‘market functioning risk’ if the Fed doesn’t deliver the cuts already priced in. It’s a case of ‘let’s put to bed the market functioning issues first, and then move on to other issues.’

Data Highlights:


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2 Responses

  1. In the context of ‘market functioning’ and that context alone, a case can be made that things are improving despite the gloom. The ff/libor basis may be every bit a function of the time of year than it is genuine credit concerns. as well, i was struck today how wamu’s shares got shot, yet the 5y cds was unch. Same with FRE. Upon more thought, that makes sense as the markets ARE functioning as cos. that made bad loans can still raise capital, albeit at a high cost, to stay in business. Thus dilutive actions are indeed bad for EPS and the shares, but they increase the likelihood of solvency and bankruptcy avoidance (supportive to the cds). In that context, the markets are ‘functioning.’

  2. > In the context of ‘market functioning’ and that context alone, a case can be
    > made that things are improving despite the gloom. The ff/libor basis may be
    > every bit a function of the time of year than it is genuine credit concerns.

    Yes, agreed!

    > as well, i was struck today how wamu’s shares got shot, yet the 5y cds was
    > unch. Same with FRE. Upon more thought, that makes sense as the markets
    > ARE functioning as cos. that made bad loans can still raise capital, albeit
    > at a high cost, to stay in business. Thus dilutive actions are indeed bad
    > for EPS and the shares, but they increase the likelihood of solvency and
    > bankruptcy avoidance (supportive to the cds). In that context, the markets
    > are ‘functioning.’

    Exactly! The real economy is all about aggregate demand, and non of that type of thing has yet to materially diminished real demand.

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