It shouldn’t surprise anyone if one were to say that Mr. Market is best friends with Mr. Moral Hazard and their drug-dealer-friend Mr. Federal Reserve (Mr. Fed). Obviously, all relationships have their ups & downs, so it appears we’re going through one of those turbulent periods right now. I think it is safe to say both Mr. Hazard and Mr. Market are giving plenty of side-eyes to their “friend” Mr. Fed these days. Rest assured though, their friendship will be back on track once again, thanks mainly to US taxpayers.
If tight roping through global inflation wasn’t already enough, Mr. Fed must now contend with pesky debts incurred during a period of irrational exuberance over the past few years. These debts are coming due in the form of ill-timed regional bank failures. We thought the skeletons of bank failures were long buried deep inside an undisclosed closet at the Fed, but it seems like some of those skeletons are finding their way out again. I’ve consulted friends and everyone seem to agree that Mr. Hazard is by far the most annoying skeleton that has resurfaced at various Federal Reserve offices around the nation. He’s the guy at the party nobody wants to acknowledge, but they need him to be there for the party to keep going on. I hate to say this, but Mr. Hazard is sounding more and more like a euphemism for expensive hard-alcohol or cocaine at a party packed full of investment bankers and hedgies.
On the one hand, Mr. Fed wants to slow down the economy by summoning a recession by ratcheting up rates so that corporations can shed some employees and ultimately lead to a slowdown in wage growth (which is a real pity since I always thought wages hadn’t grown in decades). On the other hand, it cannot raise rates too quickly because it appears some regional banks might have made questionable investments (no way, really?) during the period when everyone thought rates would stay low forever. Long story short, if Mr. Fed raises rates at their previously-planned clip any further, unrealized losses on the books of respective portfolios of various regional banks will continue to balloon and hence force depositors to run with their money (which, thanks to technological advancements over the pandemic, doesn’t require leaving the comforts of your home office as we learned with the app-based bank run on Silicon Valley Bank (SVB)—it’s only fitting!).
Mr. Fed has two choices as proposed by two prominent hedgies. Normally you don’t necessarily want to get your advice from hedgies because the dark forces of self-serving bias are very strong with them, but it’s fun to do so anyway. In one corner we have the hedgie of all hedgies Mr. Bill Ackman who wants the government to guarantee all deposits ASAP and to stress a sense of urgency, he’s quoted in today’s FT (3/14/2023) as saying, “Hours matter.” Does Mr. Ackman think he’s ordering food on Uber Eats or what?
The other corner has another popular investor Mr. Ken Griffin who has opted to question the government’s decision to protect all deposits at SVB. The same FT article quotes him as saying, “The US is supposed to be a capitalist economy. That’s breaking down before our eyes…We need accountability.” Did Mr. Griffin miss his zoom call with the Age of Impunity? Is it possible to be simultaneously super wealthy and naive? I guess so. In all honesty, I thought we would have an Elizabeth Warren-type person in this corner, but I guess it’s safe to assume that Mr. Griffin has no exposure to these banks and simply wants to purchase assets for a pennies-on-the-dollar. Who can blame him? After all that is capitalism at its finest, right?
The Fed’s track record when it comes to this stuff is clear. Any remaining doubt should’ve been removed at the start of the pandemic when the Fed decided to buy corporate junk bonds. Judging by the response of various politicians over the past 72 hours (Biden included), it appears they will maintain this record by continuing to protect powerful investors on the downside when the economy turns sour and allow them to make boatloads of money on the upside when everything is going well. It’s the best of both capitalism and socialism, I guess.
Mr. Fed’s questionable strategy is, if anything, psychologically weight down by loss aversion. But what if Mr. Fed decided to not only think about potential catastrophic market losses, systemic chaos, etc., etc.? What if they thought about the potential gains of creating a stronger investment base by allowing market forces to play through, by allowing their long-forgotten value investor friends to attend the party once again as they used to do when things soured in the past? A note to the Mr. Fed: Don’t worry too much about your friend Mr. Market. He will undoubtedly find better friends than Mr. Hazard after he has finally been put to a painful death once and for all. All I am saying is that the sun will rise again.
Having said that, the cynic inside me is far from confident. Burying Mr. Hazard won’t be an easy task (assuming he was ever buried in the first place)—especially since he annoyingly becomes stronger with each passing crisis that is averted thanks to billions of taxpayer rescue funds pumped into the market. And that is why Mr. Market will continue to run faster than all other global markets on the back of very questionable investments during good times thanks mainly to Mr. Moral Hazard and of course, their dealer-friend Mr. Fed. I’m all for maintaining great friendships, but this is one of those friendships we can collectively do without!
Credit for both photos: DALL-E 2
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