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Treasuries Test Warsh

The market tests new central bankers.

This was a widely discussed topic before Kevin Warsh took office.

So far, the stock market has been relatively sanguine, so there is a temptation to think that it is appropriate to sound the all-clear.

Over in the bond markets, the mood is decidedly more bearish. The 30-year yield is now at highs last seen in 2007.

Since then, the Federal Debt is up from $9 trillion to $38 trillion and heading higher.

Servicing that debt is the government’s biggest line item.

The reason investors test central bankers is because they need to know two things. The first is how a central banker will perform in a crisis. The second is where does the institution’s priorities lie?

Alan Greenspan took the helm of the Federal Reserve on August 14^th, 1987.

The stock market peaked around the same time and crashed on October 19^th.

It is worth mentioning that Treasury yields bottomed in 2006. Between February and October 1987, the rate jumped from 7% to 10%.

The bond market was sending a loud message that all was not right with the market.

The arrival of a new central banker, tighter financial conditions, and ebullient stock market activity, with the arrival of “portfolio insurance” (stock market futures contracts), fuelled speculation ahead of the crash.

Greenspan rode to the rescue. He cut rates by 75 basis points and increased the supply of money. The Dollar Index dropped 15% at the same time.

That reaction to market ructions set the pattern of behaviour investors expect to see whenever there is stress in the major indices.

The Fed put became the Bernanke put, the Yellen put, and the Powell put. Everyone wants to know whether we now have the Warsh put.