To Infinity & Beyond!!

Kerr Financial Group
Kildare Asset Mgt.
Jeffrey J. Kerr, CFA

September 23, 2019 – DJIA = 26,935 – S&P 500 = 2,992 – Nasdaq = 8,117

To Infinity and Beyond!!


Interest rates are a critical part of the financial system. They play a big role in determining a borrower’s cost of capital which plays a big role in strategic decisions. The current situation is an artificial and manipulated environment due to central bank policy. The investing world’s acceptance of this interest rates market enables it to continue.

Ten years ago, central banks slashed interest rates in an effort to stabilize the global economy from the financial crisis. Since reducing interest rates had worked in prior recessions, it was the “go to” strategy and considered the proper move. We were confidently assured that this was temporary, and rates would be back to normal in a jiffy. Yet, for the past decade, despite forecasts of rates returning to historically normal levels, it has been a path of steadily lower interest rates.

In addition to cutting interest rates, the world’s monetary leaders included additional strategies to combat the downturn. On top of pumping the system with money and reducing interest rates, these bankers implemented aggressive steps such as broad financial bailouts of total industries and key companies. They pulled out all of the stops.

Again, we were told that these radical and untested tactics were necessary and that it would be only short-lived. Ten years later, this transient remedy has become the norm. And like the frog in a pot as the heat is turned up, we have gradually become immune to dangers and risks that the global bureaucrats have shoveled on the system in name of saving it.

Two weeks ago the European Central Bank announced another round of “quantitative easing”. Specifically, the ECB lowered interest rates to an even lower negative level. The short term rate is now set at minus 0.5% for the reserves that banks hold at the ECB. This means that banks will lose approximately €9 billion per year on these funds that they are required to keep at the ECB .

Another important part of the announcement involves a new asset purchase program. The ECB will be buying €20 billion of bonds per month. This was less than the €30 billion that was expected but, to offset the disappointment, this program is open ended or has no set termination. Traders quickly began calling it “QE Infinity”.

In summary, Mario Draghi and the ECB are re-cycling and re-implementing the same policies that haven’t worked despite over 10 years of trying them. It is astonishing that these people have any credibility. Strangely, it seems, that as long as the system doesn’t implode, they are consider competent.

Of course, it’s not much different on this side of the Atlantic Ocean. Last week the Federal Reserve cut its benchmark interest rate one-quarter of 1%. It was the second cut in the past couple of months. There was some dissention concerning the decision to cut as three of the ten members of the committee voted against it. Chairman Powell pointed to a global slowdown and trade tensions as the chief reasons.

While this interest rate decision was broadly expected by the markets, the Fed was involved in some other unexpected developments last week. The banks have a system of borrowing and lending on an overnight basis. This is based on whether a bank has surplus liquidity or a shortfall according to regulatory measurements. The Fed stands as a lender if needed but, historically, banks view them as a last resort and would rather find the liquidity elsewhere.

Last week, for the first time in a decade, the Fed loaned around $200 billion over three days to banks in the form of short term loans. Many were alarmed and questions were raised on the cause of these developments. Mr. Powell downplayed the news and said it had no economic impact or shift in monetary policy. The capital markets will be watching to see if this is a single occurrence or if this becomes an ongoing problem.

The markets have a lot of confidence in the Federal Reserve’s ability. Perhaps too much. The Fed employs hundreds of PhD’s who are paid several billions of dollars annually. They have access to unlimited technology and computer models to assist in their analysis. Yet, despite all of these abilities and tools, they refer to themselves as being data dependent. In other words, instead of having definitive forecasts of future conditions, as is considered their critical role, they react to economic data as it is released. Apparently, advanced academics and the best programming is a lot more fluff than substance.

The U.S. 10-year note’s yield closed last week at 1.75%. This is a little higher than the start of September (around 1.5%) but down from 2.7% in March. It’s a surprising statistic that the 10-year U.S. Treasury note has provided a total return well above 10% so far in 2019. Likewise, the Bloomberg Barclays U.S. Aggregate Bond index (the main U.S. fixed income index that includes all bond sectors) has an approximate total return of 10% in 2019. These are attractive returns for a traditionally less volatile asset class (fixed income).

Turning to the stock market, the major indexes slipped around 1% last week. The recent action has been a sell off from record levels in late July and a bounce from mid-August. We remain below July’s highs. Obviously, there are strong economic, social, and political crosscurrents that the markets are digesting. Here are the major indexes year-to-date returns through last Friday.

Contrary to the gains of 2019, the returns for the past 52-weeks (year over year) are much less exciting. The Dow, S&P 500, and Nasdaq are barely positive. The Russell 2000, which may be a closer representation of the average stock, is down almost 9%. As a reminder, 2018’s 4th quarter was one worst in recent years with December being especially bad.

The reality is that stocks have not gained much since the highs in late January 2018. There has been a lot of movement but it’s been a back and forth variety without material progress. This is shown in the chart of the S&P 500. Each bar (candlestick) represents 1 week and the time frame begins in January 2018. The selloffs in February, 2018 and last year’s 4th quarter are clear reminders that stocks have risk.

The future direction of the capital markets will be influenced by interest rates. They are a critical part of the environment and are being controlled global central banks. The following quote from Jim Grant is an accurate painting of the landscape.

Interest rates are probably the most sensitive and consequential prices in capitalism. They balance savings and investment, discount future cash flows, define investment hurdle rates, measure financial risk.

Yet the Fed and its foreign counterparts seek to manipulate, or, at least, to influence, interest rates both long- and short-term. They can’t seem to keep their hand off them.


Wall Street raises no protest against these intrusions. The artificially low rates of the past 10 year have advantaged investors, speculators, and corporate promoters. They have deadened the risk sensors of even professional investors. They are the Jack Daniel’s-grade financial disinhibitors.

The same low rates – by some measure, the lowest in 4,000 years – have penalized savers incentivized dubious risk-taking, expedited the growth in federal indebtedness and perpetuated the lives of businesses that would have ended in the absence of easy credit. They have widened the gulf between rich and poor, thrown a spanner into our politics and inflated the cost of retirement.


The trouble is that the costs of radical monetary policy are dark and prospective; the gifts they bestow are bright and immediate. These gifts are likewise transitory.[i]


During the past 10 years monetary policy has shifted to a higher level of intrusion. Free markets are unarguably less free. So far, the markets have accepted and adjusted to this development. This leads to perhaps the largest risk in the capital markets – a loss of the market’s confidence in central banks and their policies. A confidence crisis is hard to forecast especially since the markets have seemingly approved the current conditions. However, if investors start to doubt monetary leaders, the adjustment could be long and painful.

[i] Grant’s Interest Rate Observer, May 17, 2019

“I Will Follow You, Will You Follow Me”

Kerr Financial Group

Kildare Asset Mgt.

Jeffrey J. Kerr, CFA


August 26, 2019 – DJIA = 25,628 – S&P 500 = 2,847 – Nasdaq = 7,751

“I Will Follow You, Will You Follow Me”

One year ago, on August 14, 2018, the S&P 500 closed at 2,839.96. Earlier this month on August 14, 2019, the S&P 500 closed at 2,840.60. As usual when dealing with the markets, the tranquil appearance of stocks running in place for the past 12 months is a misleading picture compared to reality.

The market mayhem began last fall when stocks dropped over 20% in the 4th quarter. As you may remember, the Fed was raising interest rates and reducing the size of its balance sheet (another monetary tightening mechanism) throughout the year. The market buckled in October and then nosedived in December as interest rate rose to multi year highs and international economies wobbled. Further, market strategists were predicting more interest rates increases in 2019.

Things changed in the first week of January. Federal Reserve chairman Jerome Powell softened his view on future interest rate hikes (this was quickly named the ‘Powell Pivot’) which became music to the market’s ears. Wall Street recognized the importance of this policy switch and began an impressive upswing. The S&P 500 went on to have its best first half of a year in over 20 years (1997).

While a good economy and corporate earnings helped drive stocks higher, it was clear that the markets were intensely following the Fed. But just as important, the Fed was following the markets. Similar to January 4th’s Powell Pivot, which was in response to the market’s upheaval in December, the Fed chairman openly ‘hinted’ on June 4th that the next interest rate decision would be a cut and that it would be happening soon. This triggered a rally that reversed weakness in May and stocks moved to record levels in July.

The Fed’s dual mandate is price stability and full employment. But there is little doubt that the central bank is closely following developments in capital markets. In turn the markets are following every syllable in speeches and news releases from the Fed. Within this reciprocal watching, let’s hope one of these parties knows what they are doing.

Putting some numbers behind this view, the table below shows the impact that Chairman Powell has had on the stock market. As shown, between 60% and 70% of the 2019’s gains took place in the week after significant Powell proclamations. Naturally, the bulls are counting on the Fed having more market friendly ammunition.

Recently the stock market has undergone some indecision. Prices fell at the beginning of August and then have spent the past weeks zig zagging with almost daily 1% moves. Each trading day’s direction is seemingly driven by breaking news about trade wars escalating or subsiding together with rising and declining risks of a possible recession.

Unfortunately, there have been some nasty air pockets in August with daily declines of 600, 700, and 800 points for the Dow Jones Industrial Average. This has resulted in a 4 week losing streak for U.S. stocks. If Mr. Powell is indeed watching, it looks like the stock market might be in need of some soothing words. In the meantime, here are the year-to-date performances for the major stock averages.

Despite the August selloff, U.S. stocks have had a good year. Likewise, the fixed income market has had a good 2019 as interest rates, contrary to expectations, have declined. In addition to last month’s cut in the overnight lending rate by the Fed, the 30-year U.S. Treasury bond recently fell to a record low yield. In fact the longer maturities yields have dropped further than the short end of the yield curve. This has the yield curve inverted (shorter maturities with higher yields than longer maturities) and could be a sign of a forthcoming recession.

Falling interest rates are not exclusively a U.S. development. Interest rates throughout the global financial markets have fallen. The remarkable part to this situation is that many in the world are already below zero! Over $15 trillion of bonds have a negative yield which is up from less than $10 trillion earlier in 2019. Not surprisingly, Bloomberg has developed an index that just tracks the amount of negative yielding debt.

Below is a table of the developed economies’ sovereign debt and the yields for various maturities.[i] As shown, positive yielding government debt (the green color) is at risk of being added to the endangered species list. It is astonishing that all maturities for leading countries such Germany, Sweden and Switzerland have yields below zero. France and Japan are close with only the longest dated bonds still above zero.

The United States offer the best yields among developed economies. The financial media commonly refers to this as the “the cleanest dirty shirt”. A question that is being debated is whether U.S. yields ultimately drop below zero. Several Federal Reserve speakers have suggested using more aggressive strategies when dealing with the next recession or financial system upheaval. This has led to speculation that negative interest rates will eventually part of the U.S. financial landscape.

A recent The Wall Street Journal article reported that the 2nd half of 2019’s earnings estimates are being lowered.[i] S&P 500 companies’ earnings for 2019 were originally forecast to grow 6% as compared to 2018’s level. Now they are expected to be up 1.5% for the year with the 3rd quarter number to be a contraction when compared to the 3rd quarter of 2018. Analysts predict profit growth will return in the 4th quarter. The reasons for these earnings cuts include the usual suspects – tariff uncertainty, slowing global economies, and worries over financial conditions.

The current financial and economic backdrop is a blend of inverted yield curves, negative interest rates, and slowing growth. A big worry is that central banks are fighting this battle with the same methods that have not worked for the past 10 years. One of the largest obstacles is the record amount of debt throughout the world. Government, consumer, and corporate debt totals have been growing for years. At some point the financial system will stop supporting this trend. Some adult decisions on fiscal policy are long overdue.

On the positive side, the U.S. economy is growing. While worries over a recession have increased, there is no definitive sign of one impending. Another, tailwind will likely to come in the form of more interest rate cuts by Jerome Powell and the Fed. If the unknowns around tariffs and trade decrease, global economic conditions might become more balanced.

The S&P 500 was flat over the past 12 months. However, the volatility within this timespan was noteworthy. The markets had a horrid 4th quarter last year. A friendly Fed helped calm investors’ fears and conditions stabilized. However, the crosscurrents impacting the environment are just as serious as last year which is part of the reason markets have been so hard to understand. As the Fed and the capital markets follow each other, there’s hope that working together will result in continued economic growth and calm markets.

[i] Banks, Rutherford, Collins, 1978
[ii] Bianco Research, August 23, 2019
[iii] The Wall Street Journal, August 15, 2019