Well, we came within three basis points of a second “Fed Red Day” yesterday, September 18, when the Fed lowered interest rates and no one saluted (markets fell rather sharply, then recovered).

If you are new to Critical Signals Report, we describe Fed Red Days here.

In short, Fed Red Days occur on days that the Fed lowers interest rates (that’s good news), but markets close lower (that’s bad news). Good news is supposed to take the markets up… not down.

Down is red – it means your stock investments probably lost money on a day that the Fed lowered rates – hence “Fed Red Day.”

So here we are, almost two Fed Red Days in a row. Good news that generates a bad effect has historically marked important turning points in the markets, indicating that a recession is imminent or may already have begun – long before the NERB informs us.

Let’s review…

A Close Call

Fed Red Day #1: On July 31, 2019, Powell’s Fed lowered rates by 25 basis points. That’s supposed to be good news. Markets should have gone up… except they didn’t. By the end of that day, the S&P 500 Index fell 1.09%, the Dow Jones Index fell 1.23%, and the Nasdaq Composite Index fell 1.18%.

Close Call – Fed Red Day #2: Yesterday, the Fed lowered rates again, by another 25 basis points, to a range of 1.75%-2.00%. Stocks markets opened down and fell further on the 2:00 p.m. news to a loss that briefly reached the largest in four weeks, before recovering with the S&P 500 Index up just three basis points. The Nasdaq closed down 11 basis points. It was a raucous day in the markets, worthy of your attention.

Fed Red Days forewarned of the past three recessions (well before the NERB informed us), namely before (1) the Oil Price Shock Recession in the early 1990s was announced, (2) before the Dot.Com Bubble Recession in the early 2000s was announced, and (3) before the Great Recession of 2008-2009 was announced.

Here’s what the Fed didn’t address in its official remarks yesterday, but did mention (and downplay) in Powell’s less-formal remarks to the press following the 2:00 p.m. news release.

And this is more important than a Fed Red Day…

Fed’s First Money Market Intervention Since the Financial Crisis

Earlier on Wednesday, ahead of announcing the rate cut, Federal Reserve traders jumped in to rescue the U.S. money markets to stop key short-term rates from spiking by injecting $75 billion of liquidity to calm money markets down. No mention in the Fed’s official remarks is disturbing to us, given its importance.

Here’s why…

For the first time since the financial crisis, the effective federal funds rate had trounced the Fed’s target rate:

A quick primer may be in order here on how this works.

The federal funds rate is the interest rate banks charge each other for overnight loans to meet their reserve requirements. It comes in two flavors: The “target” federal funds rate is the rate set periodically by the Federal Open Markets Committee (FOMC). That’s rate that the Fed set yesterday.

The rub here is that the Fed cannot force banks to charge the Fed target rate. Rather, banks negotiate overnight rates among themselves, resulting in an “effective” federal funds rate.

When the bank-driven effective rate gets out-of-whack with the Fed’s target rate, the Fed can jump in (as it did on Wednesday) to lower the effective rate to its target rate by adding liquidity, which it did, by $75 billion. (Conversely, the Fed can withdraw liquidity if it wants to raise the effective rate to a higher target rate.)

Fast forward to today. The Fed intervened yet a third time, with an injection of another $75 billion, raising to $203 billion the sum of all injections over the past three days. To boot, the Fed signaled its willingness to do “whatever it takes” to tame the markets – a line we’ve heard before from ECB head Mario Draghi.

The objective in all of this is to quell money-market stress. U.S. funding markets are on edge as excess reserves in the banking system dwindle.

Hate to say it, but we’ve seen this movie before.

Looking back (charted below), repo rates soared ahead of the Great Recession… then tumbled as the Fed stepped in. We’re in a lower interest rate regime this time around, with rates well below rates just before the financial crisis, but the chart does rhyme. Just saying…

The federal funds rate is the most influential interest rate in the nation’s economy. It matters that the Fed has to jump in (especially repeatedly) to rescue its target rate because that means the market (the banks) are in control, not the Fed. That’s a concern. Once, okay… fine. Continued chaos in the short-term funding market, though, would be more systemic, more recessionary.

Let’s take the logic one step further. At some point, injecting liquidity like this could become a fool’s journey, as the banks take short rates up as fast as the Fed takes them down. The bottom line here is that there may not be enough liquidity in the system to satisfy demand, making the Fed’s job that much harder.

It’s Time to Take Action

With these kinds of recession indicators in full view and liquidity issues rising, it’s time to take action. I’ll be telling you just what to do in Friday’s column.

I’ll be back with you soon.

Sincerely,

Matt Piepenburg


Comments

7 responses to “Why Yesterday’s Almost “Fed Red Day” Should Still be on Your Radar”

  1. The fed’s are doing their very best, the problem is, the banks and wall street will defeat every move of the fed’s for the less economic class.

  2. THERE SHOULD NOT EVEN BE A FEDERAL RESERVE BANK. THE FED IS THE PROBLEM, NOT THE ANSWER. IT CAUSED THE 1929 DEPRESSION. WE HAVE A BANK OF LAST RESORT–THE UNITED STATES TREASURY. WHILE EVERYONE WORRIES ABOUT INTEREST RATES IT IS THE UNWINDING OF THE FEDS BALANCE SHEET THAT SHOULD BE FOREFRONT. THEY HAVE BEEN SUCKING LIQUIDITY OUT OF THE SYSTEM FOR MONTHS. (“QUANTITATIVE TIGHTENING”) NOW WE SHOULD WONDER WHY THE REPO RATE IS ON THE MOVE? GIVE ME A BREAK AND BEAM ME UP SCOTTY. I LOOK FORWARD TO “FED DEAD DAYS” WHEN THE CROOKS ARE FINALLY GONE. “If the American people ever allow the banks to control issuance of their currency, first by inflation and then by deflation, the banks and corporations that grow up around then will deprive the people of all property until their children will wake up homeless on the continent their fathers occupied.”–THOMAS JEFFERSON
    (I recommend all Americans read Andrew Jacksons farewell address)

  3. With this column, I’ve read two columns about the repo rate spike and Federal Reserve $203 billion infusion. And I’m getting concerned. Even though the Fed has taken some liquidity out of the system, around a few hundred billion compared to the massive $3.25 trillion or so put in over the past 11 years and raised nominal rates from about zero to the target rates of 1.75%-2.00% currently (down from 2.25%-2.50%), I don’t understand how there can be such a liquidity problem. Is all the money still parked in reserves at the Fed and used in other investments like stock buybacks and stock market purchases? Is fear driving some of the liquidity shortage, banks leery of getting their overnight money back in short order at the rates it was lent?

  4. This article helps me understand better what action I may need to take. As an ordinary investor I subscribe to many newsletters so are on the same page like you but many are saying ignore all this noise and hype. Thank you for the clarity in this article. Please continue to keep me informed.
    Regards
    Ann Denise Joseph

  5. Could you please resend Matt’s last report rec’d today. I lost it somehow, and would really like to get it again
    Thanks

  6. Responding to D.B. Warren saying that the Fed caused the 1929 crash. That is simply put, way too myopic. Ever since the economic system where enterprises have been operated with a employer/employee structure (versus the earlier and truly awful structures of slavery and feudalism, i.e., master/slaves and feudal lord/serfs), there have been downturns and upturns in economies (nearly 300 years). This basic structure of employer/employees is what we call Capitalism. Capitalism is NOT defined by “free markets” and private enterprise. It is characterized by this employer/employee structure, and then quickly evolved to “corporate” capitalism wherein major shareholders actually make all the really big decisions in any company by way of electing (very undemocratically) the board of directors.
    That we are looking at yet another recession/depression should not be in anyway surprising. For one reason or another, these downturns have ALWAYS and will ALWAYS occur in capitalist-structured economies.
    So how can we avoid these downturns? We cannot say absolutely for sure, but some top down, government run actions to try and prevent these will most likely NEVER work for any length of time. My personal belief is that Professor Richard Wolff and others like him are totally correct in trying to make people aware of the benefits of Worker Self Directed Enterprises versus capitalism. These are a form of work cooperatives wherein the workers vote democratically, one person, one vote on all the major decisions that a sole employer or a board of directors would otherwise make. And such coops are not theoretical. Thousands already exist around the world, the oldest and largest one being the Mondragon Cooperative Corporation in the Basque region of Spain with over 70,000 employees. These types of enterprises are slowing gaining in number, although still very few compared to the vast majority of enterprises.
    While the Fed has certainly screwed things up for the vast majority of people, let us be clear that while they purportedly work for all of us, they really work for the 0.01%. So their policies have benefited the very wealthiest in this country greatly, but the rest of us have born the brunt of their ridiculous policies.
    It might well be that capitalism is coming to its inevitable end, just like slavery (although it exists in some forms today, even in the US) and feudalism. Hopefully we can eventually arrive at something far less unstable, far less prone to creating such vast wealth/income disparities, and something that places a regenerative, healthy environmental impact as a first goal, not a last side thought.

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