Fed Chair selection: Candidate Kashkari is underpriced – Tactically long gold

Fed Chair selection: Candidate Kashkari is underpriced – Tactically long gold

Minneapolis Fed President Neel Kashkari deserves more serious Trump consideration for Fed Chair given: dovish credentials, policy alignment (according to Breitbart) and recent endorsements by Gross/Gundlach. Prediction markets are underpricing Kashkari’s viability (currently 6% vs fair probability closer to 20-25%, in my view). A simple Trump comment/tweet would be enough to be put Kashkari in serious running as an exciting/last-minute candidate.

Ref:

  • Breitbart recently wrote that ‘Kashkari’s views are closer to Trump’s than any other Fed candidate’ (5 Oct-17). This endorsement is significant given Kashkari’s criticism of large Wall Street banks (which he believes should be subject to higher capital requirements) seems antithetical to de-regulation.

  • Bill Gross (‘he’d be my choice’ – Bloomberg, 6 Oct-17) echoed Jeff Gundlach at Vanity Fair last week (CNBC, 3 Oct-17) pointing to Kashkari’s dovish credentials: ‘He happens to be the most easy money guy … and that's why he may win’.

  • Breitbart, Gross and Gundlach may be enough to intrigue the ‘reality show President’ to add candidate Kashkari in a surprise twist (recall the Supreme Court justice nomination earlier this year).

  • Yet, this scenario is underpriced – with prediction markets (Predictit) only giving it a 6% probability (as of 9 Oct-17).

  • Kashkari hasn't indicated he isn't interested in the job. Yet he is a prolific speaker and writer - most recently a very accessible policy paper on inflation that almost reads like a personal statement for a job application (2 Oct-17):

  • [Fed] policy should focus on supporting inflation to ensure that we are on track to return to our 2 percent target. My preference would be not to raise rates again until we actually hit 2 percent core PCE inflation on a 12-month basis...

  • Job growth, wage growth, inflation and inflation expectations are all likely somewhat lower than they would have been had the FOMC not removed accommodation over the past three years. Allowing inflation expectations to slip further will mean that we will have less powerful tools to respond to a future economic downturn. I believe these are significant costs that we must consider as we contemplate the future path of policy.

While a Kashkari appointment is not my base case (Gov. Powell’s appointment is most likely), the risk-reward on this low-probability/high-impact event is attractive – best expressed by tactically going long gold. Conceptually, the trade is underpinned by marginal demand for inflation-protection as a Kashkari-led Fed is more likely to run the US economy ‘hot’ until 2% inflation is achieved. Other tailwinds for long gold:

  • More physical demand: Seasonal buying of gold ahead of India’s Diwali holiday is further boosted by a recent govt reversal on anti-money laundering rules (Bloomberg, 9 Oct-17)

  • Higher US inflation: US inflation data are expected to move higher this Thu/Fri: US PPI (prior 2.4% /ex-fae 2% yoy) and US CPI headline/exfa (830pm, cons 2.2%/1.8%, prior 1.9%/1.7%), respectively

  • Cleaner positioning: CFTC net-long positioning is least bullish in 7wks, -20k to 208k in the week ending 3 Oct. Retail demand has weakened as SPDR Gold ETF suffered the most outflow in 2mths (Bloomberg, 3 Oct-17)

  • Supportive technicals: Key support levels (100dma: 1273.5) have held up through last Friday’s NFP

  • Lingering geopolitical risks: North Korea missile threat, deteriorating US-Turkey relations (amid Iran nuclear deal questions) are among the reasons for elevated risk premium this week

The impetus for this trade are two-fold: First, heightened market attention on the Fed chair selection process as a key macro driver this week – reinforced by today’s ‘Week Ahead’ poll on Twitter (link). Second, as mentioned in our Week Ahead (8 Oct-17), the USD outlook this week is likely to be more muted than last week due to: 1/ Tax reform may be challenged by Trump-Corker verbal exchanges over the weekend (BBC, 9 Oct-17) and 2/ 88% Fed funds futures pricing for a 14 December rate hike is fair-to-high considering distance and data-dependence.

Any questions/comments are welcome to: strategist @ emgist.com

Trade specs:

  • Entry: 1280

  • Target: 1295-1300

  • Time horizon: Through US CPI (Fri), 1-2wks

  • Risks to trade: Trump clarifies Kashkari not in the running, Kashkari indicates no interest (so far no evidence of this)

Visuals:

#fed #gold

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