Blain's Morning Porridge - Nov 3rd 2017: Powell as New Fed Head - and why its great news for US
Blain’s Morning Porridge – November 3rd 2017
““I am unable to think of any critical, complex human activity that could be safely reduced to a simple summary equation.”
For the avoidance of doubt – the Morning Porridge is unrestricted market commentary, it is not investment advice…
Much to the surprise of no one in particular, the middle ground continuity candidate, Jerome Powell, has got the Fed Head job. The media is full of analysis and stories citing his wit and wisdom, his record, and his background. We’d call him as about 2/3 on the Dove/Hawk policy spectrum. The market herd has gone all enthusiastic, thinking he’s going to pander to Trump’s reflationary beat, remain Dovish, keep policy loose and maintain the illusion of healthy markets by ensuring we don’t stop dancing to the bubbilicious Froth-vibe.
Me? I’m thinking the man is a practical banker, probably gets it, and is likely to be very positive for banking stocks. As everyone else has already pointed out, he’s not encumbered or otherwise handicapped by any academic qualifications in Economics.
How is he going to perform in the job? The Fed actually has 3 main objectives (many folk think it only has two):
The first is Inflation – keeping it at 2%, where it remains below target. That remains work in progress.
The second is Jobs, where Yellen, a distinguished Labour economist can retire with a job-well-done pat on the back. (Today’s US employment data will probably confirm the success of the Fed in boosting employment – although it’s going to be a hurricane affected number.)
The third is Financial Stability – and this is where the choice of Powell gets interesting. He is not a theoretical economist. He’s a professional central banker with time served in banking and investment firms before taking regulatory and Central Banking posts. He understand what makes financial institutions tick, and importantly, he understands over-regulation and complex rules may not be effective as bureaucrats have us believe.
Read through his comments as a Fed Governor - the details show his stance is regulation isn’t necessarily the solution. A critical comment made in 2015 was: “I my view, the Fed and other prudential and market regulators should resist interfering with the role of markets in allocating capital to issuer and risk to investors unless the case for doing so is strong, and the available tools can achieve the objective in a targeted manner and with a high degree of confidence.” I will give him an immediate NSS gold star for that observation.
Powell is likely to prove a pragmatist and practical banker – and is likely to “roll back the state” when it comes to ensuring sound financial markets. Many blogs and media quote a speech he gave in 2017 saying aspects of regulation are “burdensome”… but the key comment he made was “I support adjustments designed to enhance the efficiency and effectiveness of regulation without sacrificing safety or soundness, or undermining macro-prudential goals.” That reads like – efficient and effective banks should be allowed to get on with financing economic growth without undue regulatory burden.
That kind of thinking is going to gel well with bankers. A friend who recently retired from the board of a modestly successful bank once told me they spent 90% of their time firefighting to avoid regulatory fines and coping with regulation rather than actually managing the bank for growth..
Let’s try and put the appointment of Powell in context of the US banks. It’s likely to prove positive. The last 10-years have been all about reducing financial system risk via regulatory fiat. That has created some interesting dynamics:
Take a look at the dominant beast on the global financial stage – JP Morgan. It has a global market share of 20% of investment banking market. It’s the market leader in FICC (Fixed Income, Currency and Commodities) with a 23% market share, and isn’t that far behind The Vampyre Squid and Morgan Stanley in equity. (Remember, global investment banking revenues of $23 bln in Q3 this year were split roughly 60/40 in favour of FICC over Stocks.)
Over the past 10-years, JP Morgan has seen its VAR (Value at Risk) tumble from a high of $327 mm per day in the last quarter of 2008, to $27mm today! That’s an incredible 89% drop in the risk the firm is taking. In the same time frame the value of the global stock market has risen from $60 trillion in 2007 to $80 trillion today, while bonds have increased from $26 trillion to $50 trillion.
In other words, JP Morgan is taking 90% less risk, and has a larger market share of a 33% larger market. The immediate effect is its margins are going through the roof. Just like its stock price.
Is Powell going to put that at risk?
Of course not. He understands the upside of a healthy financial system on the economy. Why would he burden US banks with something as fundamentally pointless and utterly useless as.. ***** [unfortunately the powers that periodically refill my bank account would rather I do not negatively comment on certain regulations pertaining the trading of financial instruments and research due to come into law in Europe early next year… so let’s not mention them..]
The bottom line is American banks look very investible. Europeans? Please……
Mark Carney should be paying attention. After undoing his panicked Brexit rate cut with a 0.25% hike yesterday (and putting the chattering classes on the BBC into panic), maybe it’s time to start easing up on some of the other nonsense as well.
Elsewhere…
I now officially admit I feel kind of sorry for Theresa May. Is there nothing ever going to go right for our hapless leader. With further harassment and behavioural scandals set to emerge, and we’ve heard a particularly juicy one about one cabinet minister, who has she got left to parachute into the Grand Offices of State? As we watch the unfolding train-wreck of her government, it’s got all the inevitability of a cute little seal cub being approached by a bunch of burly Canadians wielding baseball bats….
Imagine our shock and surprise to discover Venezuela defaulted last night. Dang, after all these investment bankers have been assuring us diversification into EM names like Mauritius, Iraq, Syria and Notpayabackistan would reap riches, who would possibly have thought such countries might go bust?
It’s no secret Venezuela was a ripe source of investment banking fees through the Chavez era, and unwinding the complex mix of local, international and Chinese claims is going to be… fascinating.
I wonder how Goldman feels about it? A few years ago the Venezuelans struck a cash-for-gold deal, receiving $1.8 bln of gold vs a $1.62 bln loan from the Squid with margin strings attached. The gold is apparently sitting in Goldman’s vaults. Although gold is only up around 7% since the deal was struck, it’s still a win compared to most creditors who could be in court for years. Which makes me wonder exactly what the terms on that deal and other senior Venezuela deals are – might it be Goldman’s position as a preferred creditor is something other creditors might consider in their claims?
The Maduro government is blaming Los Yankees and sanctions for the default, but has imaginatively appointed a character straight out of Narcos (Tareck El Aissami is on the EDA list) to negotiate the restructuring… just adds to the fun factor..
Have a great weekend, and be careful with the fireworks!
Bill Blain