A Warsh Sale?

There’s nothing like an early news blast to start a trader’s day.  For those of us in the eastern US, we learned last night that the President would be nominating a new Federal Reserve Chair this morning, and around 7 AM ET we learned that it would be Kevin Warsh.  Despite some late speculation about Blackrock’s Rick Rieder, we ended up with one of the “two Kevins” whose names had been bandied about for months. Because Warsh is a known quantity to markets, their initial reactions are relatively muted.[i]

I apologize for the bullet point format of today’s piece, rather than the usual prose.   The magnitude and timing of the announcement caused me to spend a good portion of this morning responding to questions about it, so I needed to organize my thoughts more quickly than usual. 

As for this morning’s reaction to the Warsh nomination:

• We wound up with one of the “two Kevins” after all.  Sure, there was some late movement to Rieder, and Fed Governor Christopher Waller did his best to keep his name in the ring with this week’s dissent, but we ended up pretty much where we started.
• While he’s well known to the Fed and Wall Street (and a son-in-law of one of Trump’s friends), Kevin Warsh is better known for his inflation concerns during his term as Fed Governor from February 2006 to March 2011 than as a constant advocate for lower rates.  That makes him a bit of a curious pick, considering that the President has made it clear that he wants a Fed Chair who is willing to advocate for lower rates.   If he maintains his vigilance about inflation, it should assuage those who are concerned about threats to Fed independence.  If it turns out that his resistance to rate cuts during the Global Financial Crisis was more about politics than inflation concern, that could turn problematic.
• Hence the relatively muted responses in key market indicators:
  • Fed Funds futures are pricing in a full cut for July (plus a 19% chance of more) and another for December.  Versus Wednesday, those are up from a full cut in July (+7% chance of more) and an 88% chance for another by December.  Not a big move.
  • 10-year and 30-year yields are up by 1 and 2 bp respectively.  That reflects only a modest incremental concern about inflation (they didn’t really move after the higher PPI print, by the way).
  • The dollar is modestly higher, meaning that foreigners are OK with the pick for now.
  • Stocks are a bit lower (SPX -0.4%, NDX -0.8% just before noon ET), as they were during most of the pre-market and early trading.  There was the usual attempted bump on the open, but we’re now back roughly to the lowest pre-market levels.  Bear in mind that:
    • Today is month-end, so window dressing is not out of the question.
    • Yesterday afternoon was one of the more spectacular “buy the dip” episodes that we’ve seen in a while.  Thus, we can’t rule out a bit of volatility today.
• Bottom line: assuming that Senator Tillis resumes approving nominees after a successful resolution of the criminal probes into Chair Powell, Warsh should be approved relatively easily, and markets would be fine with that.  During Wednesday’s press conference, Powell told us that the committee is broadly in favor of no action right now, which could be interpreted as that one person does not dictate policy at the FOMC.  It’s hard to imagine Warsh being able to change policy too abruptly even if he does turn out to be politically motivated.

I’ve also been fielding several questions about today’s double-digit percentage plunges in precious metals:

• They were already headed lower before the Warsh announcement.  It’s not about him.
• They reflect the instability of parabolic moves and the unpredictability of how they end. 
• The moves in precious metals are related to the recent underperformance of bitcoin.  My comment, “bitcoin is now for normies,” applies.  The post-election run-up in crypto was powered not by “HODL’ers,” but by average investors – many of whom were not 20- and 30-somethings, but closer to retirement – who used ETFs to hop onto the momentum.  When the momentum faded, they moved to metals.  We’re seeing the logical outcome of that wild rotation.  (By the way, on a 1-year basis, gold is smoking bitcoin.  On a 2-year basis, the performance is quite similar.  Silver is, of course, in an orbit all its own.)
• I (presciently) wrote about this yesterday:

… some of the craziest moves occurred in decorrelating hedges that have turned into highly speculative darlings.  Bitcoin broke through support at $87,500 and plunged quickly to $85,000. Most notably, gold and silver … each had swings exceeding 10% this morning.  The intraday moves in gold have been increasing markedly as its upswing has morphed from steeply linear to parabolic. 

There are two things to keep in mind about the recent volatility in precious metals:

1. Parabolic moves are inherently unstable.  They are caused by a powerful combination of speculative fervor and counterparty pain.  At some point, those dynamics resolve themselves, often with major consequences for the last buyers.  The trick, of course, is figuring out when the music is about to stop.
2. Market volatility tends to increase around turning points.  The increasingly huge moves in these commodities may mean that the musicians are preparing to take a rest.

[i] While today’s title is a play on a market term known as “the wash sale rule,” it has nothing to do with the rule itself.  IBKR Campus offers an explanation that leads with: The US Internal Revenue Service defines a wash sale as “a sale of stock or securities at a loss within 30 days before or after you buy or acquire in a fully taxable trade, or acquire a contract or option to buy, substantially identical stock or securities.”