Trading Lesson: Why Powell Has Backbone & Unlikely to Crawdad on Market

12/31/2018 6:00 am EST

Focus: MARKETS

John Mauldin

Chairman, Mauldin Economics

We’ve reached the best time of year, when we look to the future with hope. We can stop wondering what will happen in 2018 and look forward to 2019. The investment industry always does this enthusiastically, as you’ll see in forecasts everywhere, writes John Mauldin.

But first, I am going to offer some different thoughts than the mainstream media spin on Jerome Powell, his press conference, and the Federal Reserve.

My inbox and the mainstream media are packed with criticism of Jerome Powell’s press conference. The market didn’t like what it heard and immediately tanked. People called him tone deaf for not listening to the market.

Looking at U.S.-based indexes, and indeed most foreign ones, we are clearly in bear market territory with many benchmarks down well over 20% from their highs. What was Powell thinking?

There were many accusations that Powell fumbled the ball, not telling the market what it wanted to hear. As if that were his job.

I think Powell may have said exactly what he wanted to communicate. The last three Federal Reserve chairs have acted like the Fed has three mandates: the two official ones (low inflation and full employment) and an unofficial third one: making sure asset prices rise as the market wants. Not just the stock market, but real estate and all other investment assets.

It started with the Greenspan “Put” which morphed into the Bernanke Put (remember the taper tantrum?) and reached its apex with the Yellen Put.

And what did we get? A series of bubbles.

As Stan Druckenmiller says, the really big Fed mistake was when Greenspan kept rates too low for too long in 2003–2004, setting up the housing bubble and Great Recession. He clearly helped the massive bubble in 1999–2000.

Then Bernanke’s reluctance to raise rates above zero in 2012–2013, when the economy was manifestly recovering, refueled the asset price bubble.

Yellen continued that course. Her reluctance to raise rates until Trump won the election, the economy was booming, and unemployment clearly falling was inexcusable.

I think there is the very real possibility Powell wasn’t being tone deaf at all. He could have wanted to remind everyone that the Federal Reserve is independent from Wall Street as well as politics.

Yes, Powell worked on Wall Street, is quite wealthy and was an investment banker, and even ran his own hedge funds, as well as numerous posts for the Treasury before he came to the Fed, so he is clearly an “insider.”

He is also wicked smart, maybe even wicked brilliant. He didn’t stumble or mumble at his press conference. He was quite deliberate. He knew exactly what he was saying and I’ll bet you a dollar against 27 doughnuts he knew the market would react negatively. You cannot have his resume and not know exactly what the market would do given his quite careful press conference.

This makes me think Powell is perfectly willing to walk away from that unofficial third mandate. Is he letting his inner Volcker show just a little bit? If so… damn, Skippy, it’s about time!

The Federal Reserve should be just as concerned about Main Street as it is about Wall Street. The serial bubbles of the last 30 years all had serious negative consequences. Yes, the ride was often fun, and some of us made good money in both the up and down cycles. But Main Street would be better served with a steady-as-she-goes Fed policy.

Wall Street (and the financial world in general) should create earnings and value companies based on those earnings, and not game the system to the point where valuations get incredibly stretched and then the bubble pops.

It kills the average investor who buys late in the cycle and then gets scared out of the market at exactly the wrong time. People come to see investing as a game Wall Street plays for its own benefit. In fact, it is anything but a game. To most people, investing is about retirement and life.

How will we know if Jay Powell is serious about his inner Volcker?

In Texas, we would look to see if he “crawdads” on us. Let me explain that. I grew up in West Texas where farmers and ranchers would create “tanks” or ponds to catch and hold rainwater for the cattle to drink.

Little creatures we call crawdads (crayfish in more polite circles, which look like tiny lobsters) would burrow holes around these tanks and live happy little crawdad lives… until some young kid would come along, throw a piece of small bacon with a string attached to it in front of their home. When they would come out and grab the bacon, you would jerk the string, put the crawdads in a bucket and sell them to strange adults who would pay you a nickel apiece. Just for a silly crawdad.

Later in life, I learned that crawfish etouffee is a serious meal in Louisiana and much of Texas. Next time you go to Pappadeaux’s, order the crawfish etouffee. It is not cholesterol friendly, but it is really good.

But back to the main plot: When crawdads sense danger, they start walking backwards (as in this video) to hide in their hole. Hence the term, “Are you crawdadding on me?” Meaning, “Are you backing away from what you said or want back what you gave me?” It was generally not said in a polite manner. To crawdad on someone meant you broke your word.

If Powell lets the markets fall and doesn’t crawdad on us without coming back and giving a speech essentially saying, “I’m sorry, I really meant to be more dovish,” then we will know he really wants to end the third mandate.

That would make me stand up and applaud. Loudly and with enthusiasm. Will it cause me personal pain? Sure. I’m trying to sell my home now, and what he did probably won’t help real estate values. (By the way, if you are reading this and thinking about buying my home, don’t lowball me. I’m not paying attention to Powell and the Fed either. Value is value.)

If Powell really sticks to his guns (I know I’m mixing metaphors here), then the United States and the world will be better in the long run—especially if his successors at the Fed do the same. They should politely take the president’s call, ignore the tweets, and set their own independent course.

Will there be a time to cut rates? Absolutely. And I fully expect Powell to do it when unemployment starts to rise or inflation rears its head. But not because of some tantrum in the %#$! markets. That is not the Fed’s mandate.

I want the Fed chair not to be the second most important person in a world where most of the people don’t even know his or her name. Where we don’t live and die by some stupid dot plot, but on whether companies actually increase their earnings by growing their businesses. I can dream, but I’m not the only one…

Learn more here: Mauldin Economics

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