In late February, the Wall Street Journal
offered this thought:
"Haruhiko Kuroda's first job as Bank of Japan governor may be to convince people he is a little crazy.
"That is because the former finance-ministry official, who is expected to be nominated this week to be Japan's next central-bank head, would be given the task of reversing 15 years of price declines that have scourged the Japanese economy. To do that, economists say, he would have to convince investors, businesses and consumers in the world's third-largest economy that the central bank will do whatever it takes—including buying unlimited amounts of government debt as well as anything from stocks to foreign bonds—until deflation is whipped.
"'Unless you put people on top who are that crazy, the market won't believe them,' says Naohiko Baba, chief economist at Goldman Sachs in Tokyo."
As one who has written at length about extreme reactionist central bank actions over the past five years (see When Policymakers Become Extreme Reactionists: A Survival Guide for Investors
) I was struck by the underlying message of the Journal
article: To succeed, Mr. Kuroda would need complete capitulation. To whip deflation, Mr. Kuroda required an immediate and profound shift in the market’s belief system. He had to reset expectations and convince businesses, consumers, and other policymakers that “everything from wages and corporate profits to the price of stocks” would be on the rise. There was no room for even the slightest hesitation or doubt; no time for questionable “green shoots.” Everyone had to immediately buy into the certainty of a mature bamboo forest watered to perfection by central bank liquidity.
For investors already primed by the Fed’s Buzz Lightyear and the ECB’s “whatever it takes” extreme monetary policy actions, the message was clear: Go long the Nikkei
(INDEXNIKKEI:NI225) and Japanese Government Bond (JGB) and short the yen, and do it with the maximum amount of leverage as possible. This wasn’t just a TINA (“Theirs Is No Alternative”) trade, this was the
TINA trade, where it paid to immediately capitulate and in size. Investors met Mr. Kuroda's craziness and immediately raised him.
Even before Mr. Kuroda took office in March, investors were eagerly front-running him. Like over-trained Pavlovian dogs, investors didn’t wait for the bell to ring. After five years of bell-ringing by the Fed and the ECB, the dogs were already salivating in anticipation of the Bank of Japan’s sounding of its bell.
What fascinates me most, though, about the situation in Japan, was not the action of the BOJ, but the behavior of investors: They completely capitulated. Having been well-primed by prior experience, they didn’t wait to be painted into a corner by policymakers; they eagerly took out their own brushes and painted themselves into a corner. TINA became TOA – “The Only Alternative.”
While on the surface this would appear to be a major victory for central bankers, I am afraid that Mr. Kuroda’s success may represent a peak in investor confidence in central bank policymakers. After capitulation – particularly saturating capitulation in which everyone is all in – what does a central banker do for an encore?
Even more, given the extreme actions on the part of all concerned, what if Abenomics is to central banking what subprime mortgage lending was to housing in 2006? What if Abenomics is nothing more than policymaking taken to an extreme, enabled by and sustained solely through an overconfident investor belief system? A systemic abdication of risk management due to collective overconfidence? As I have offered before, there is a reflexiveness to investors’ confidence in central bankers. When investors are confident, they are confident in the power of central bankers. When they are not, the reverse is true.
To be clear, I don’t offer these thoughts for their shock value or to discredit the efforts of central bank policymakers. No, my focus is on the other side of the equation – what investors believe to be true today about the effectiveness of central bank actions, and why. Even more, what it means to asset values – across every investment class – if investors conclude that their confidence in central bankers was misguided. If due to overconfidence, does that mean that investors simply believed too much?
I would pay extremely close attention to what now happens in Japan. Bubble bursts have a LIFO (last in / first out) quality to them. The most extreme case, which occurs at the very peak of confidence, always turns first. Given the yield move in JGBs over the past six weeks and last week’s move in the Nikkei, it feels like a major turn is now afoot. While this doesn’t prevent other global markets from going on to new highs, I would be very careful to assume that what has taken place in Japan this week is at all contained. Like subprime mortgages in 2007, “contained” is more likely to mean "just the beginning."
Even more, when it comes to confidence in global central banking, investors can’t be half-pregnant. One either believes or doesn’t. The decision is binary. One is either painted into a corner or isn’t.
Admittedly, there is an enormous irony for policymakers in all of this. Like every other market Big Truth, when everyone is certain it is true, the top is in. For central bankers, I am afraid that once everyone believes in their omnipotence, it is lost.
Peter Atwater's groundbreaking book "Moods and Markets" is now available on Amazon and Barnes & Noble.
“Peter Atwater brilliantly provides a framework for understanding both the socioeconomic hubris that led to the great credit bubble of the past decade and the dark social-psychological hangover that has resulted from its collapse. In so doing, he offers an invaluable guide to what promises to be a very difficult and turbulent period ahead as we experience what he calls the ‘me, here, and now’ behavioral tendencies of the post-crash world.” —Sherle R. Schwenninger, Director, Economic Growth Program, New America Foundation
Position in SH and JPM
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