Dancing on the (Debt) Ceiling, 'Productive' Progress? Fed, Zooming In on Zoom (2023)

"Productive."

Financial markets seem to like that word.

President Joe Biden and House Speaker Kevin McCarthy supposedly held a "productive" phone call on Sunday. This set up a mixed, but positive-leaning trading session on Monday. Trading remained as thin as it has been of late on Monday as the two leaders had scheduled a face-to-face meeting for Monday evening. As most sentient beings might have surmised going into this meeting, the two have not come to some kind of break-through agreement. That said, it sure seems that this meeting was indeed... "productive."

The Wall Street Journal quoted the Speaker of the House: "I think the tone was better than any other time we've had discussions ... we still will have some philosophical differences, but I felt it was productive." The Speaker added, "We know the deadline. I think the president and I are going to talk every day... until we get this done."

The Journal also quoted President Biden: "I just concluded a productive meeting with Speaker McCarthy about the need to prevent default and avoid a catastrophe for our economy." If only this were a drinking game and "productive" was the keyword.

How real is the threat? Treasury Secretary Janet Yellen wrote yet another letter to Congress on Monday, reaffirming the fact that the nation's cache of cash is running dry almost as quickly as is her flexibility. Yellen wrote, "It is highly likely that Treasury will no longer be able to satisfy all of the government's obligations if Congress has not acted to raise or suspend the debt limit by early June, and potentially as early as June 1."

So, Is It Progress?

The use of the word "productive" was certainly meant to sound like progress is being made. That matters to financial markets and the keyword-seeking algorithms that control price discovery.

That "productive" phone call on Sunday came after the president had said earlier that day that House Republicans had taken extreme positions that he termed unacceptable. Imagine if that's how the situation had been left until the opening bell on Monday morning. Imagine if the two elected officials had not come out of Monday's face to face sounding optimistic?

The gist of the issue is that Republicans intend to cut spending in the aggregate on a year-over-year basis, and use this as a condition for legislatively increasing or suspending the federal debt limit. Democrats see the two as separate issues, and think that they should be treated as such.

For their part, the Democrats are willing to talk about decelerating growth in spending but not actually reducing total expense. Bloomberg News reports that the Biden administration has already proposed the maintaining of non-defense and defense discretionary spending flat for fiscal 2024 from fiscal 2023, while allowing for a 1% increase for fiscal 2025.

Obviously, Democrats would like to see this matter settled through the 2024 electoral cycle. The bill already passed by the Republican-led House would not only cut spending, but re-introduce the debt ceiling as a political narrative as soon as March 2024.

How messy this all gets. To make matters worse, more extreme members of the Democratic party in both legislative chambers have pressured the president to invoke the 14th Amendment of the U.S. Constitution to unilaterally (authoritatively) act to adjust the nation's debt limit. The 14th Amendment vaguely states that federal debt authorized by law "shall not be questioned." It does not specifically address the issue of a debt ceiling, as no president has ever made use of this amendment in this way and current Treasury Secretary Yellen has even openly questioned the legality of doing so.

Difference of Opinion

As talks around increasing the federal debt ceiling progress and the possibility of an actual U.S. default still looms, the Fed was once again, out in force. It may be safe to say that there really is no consensus (at this time) on what our central bankers will do come June 14, and a default on U.S. sovereign debt or a change in U.S. credit ratings appear to have not come up as a possible eventuality.

We obviously believe that there will be an eleventh-hour deal, and apparently so do the various Fed heads that made their way out into the public on Monday. Noted policy hawk James Bullard, who heads the St. Louis Fed, spoke from Fort Lauderdale, Florida. "I think we're going to have to grind higher with the policy rate in order to put enough downward pressure on inflation and return inflation to target in a timely manner." Bullard did not let it go at that. He added, "I'm thinking two more (25 bps?) moves this year - exactly where those would be this year, I don't know... but, I've often advocated sooner rather than later."

Minneapolis Fed President Neel Kashkari appeared on CNBC, and when asked for his thoughts on a June policy decision, he said, "I think right now, it's a close call either way, versus raising another time in June or skipping. What's important to me is not signaling that we're done." Kashkari added, "If we were to skip in June that does not mean we're done with our tightening cycle." This, to me, backs up what Fed Chair Jerome Powell signaled on Friday... that the FOMC may not increase its target for the Fed Funds Rate at every single meeting without pivoting and without calling it a "pause."

Bullard and Kashkari were not the only two speakers making the rounds on Monday. San Francisco Fed President Mary Daly sounds uncertain. "I really think at this point in our tightening cycle, it is prudent to resist the temptation to say what we are going to do for the rest of the year," while Atlanta Fed President Raphael Bostic seems to be speaking my language.

Bostic said pretty much what I have been writing now for several months: "Our policy works with a lag. And we're just at the very beginning of this time when that lag is starting to play out and you're starting to see tightness emerge. Right now, absent a big change, I think I will be comfortable saying let's just look and see how things play out.

Just a heads up, gang, Dallas Fed President Lorie Logan speaks ahead of the U.S. market open today. Last week, she sounded quite hawkish in her commentary.

In Response...

Treasury yields moved slightly higher on Monday. The U.S. 10-Year Note paid 3.72% late Monday. I saw that yield in between 3.73% and 3.74% this morning. The 2-Year Note moved up to 4.33% on Monday. I now see that specific security paying almost 4.38%. These Treasuries are probably trading more in line with the Fed speak around policy than anything else.

Shorter-term U.S. paper is reacting to the progress or lack thereof, being made toward the avoidance of a U.S. default. In other words, shorter-term sovereign debt is being adjusted for increased risk. 30-Day U.S. paper paid as little as 5.312% on Friday, as little as 5.396% on Monday and I saw it trading with a yield of 5.474% this morning.

Equities

Stocks hung in there pretty well on Monday as they have done for months now. The Nasdaq Composite gained one half of one percent for the day, while the S&P 500 essentially closed flat from Friday's closing level. Smaller caps outperformed, with the Russell 2000 up 1.22% as the U.S. dollar continued to strengthen. The KBW Bank Index also popped for 1.75%, as PacWest ( PACW) was able to off-load a portfolio of 74 real estate construction loans with a principal balance of roughly $2.6B to a subsidiary of Kennedy-Wilson ( KW) holdings.

Six of the 11 S&P sector SPDR ETFs closed in the green on Monday, though Communication Services ( XLC) was the only one that came anywhere close to gaing a full percentage point (+0.91%) for the day. Consumer Staples ( XLP) were the day's big loser, giving up 1.51%. No other sector even approached a loss of 1%.

Winners beat losers by roughly 3 to 2 at the NYSE and by about 7 to 4 at the Nasdaq. Advancing volume took a majority share (64.5% at the NYSE, 70.2% at the Nasdaq) for listings of both of New York's leading exchanges. Aggregate trade decreased 7.7% on a day-over-day basis for NYSE-listed securities, but did increase 8.7% day over day for Nasdaq listings, albeit at low levels to begin with.

Zoom Video

I am not in Zoom Video ( ZM) and have not been for quite some time. I am, however, becoming more and more impressed with the company's performance.

On Monday night, Zoom Video reported a fiscal first quarter that beat Wall Street expectations for both its top-line and adjusted bottom-line results, while maintaining GAAP profitability. The "pandemic darling" has hung in there quite well as white-collar workers went back to working together "on location" and seems to be benefiting as that call to return to work on premises appears to have stalled.

The company still runs with a very strong balance sheet and a free cash flow margin of 35.9%. In addition, Zoom took both current-quarter and full-year revenue guidance above consensus, while doing the same for its guidance for full-year adjusted earnings per share.

This is a name that I think I will be looking to initiate on any broader market weakness brought about by any non-ZM specific headlines (such as debt ceiling-related political posturing).

Today's Earnings Highlights (Consensus EPS Expectations)

Before the Open: ( AZO) (31.47), ( DKS) (3.22), ( LOW) (3.45), ( WSM) (2.39)

After the Close: ( A) (1.26), ( PANW) (0.93), ( TOL) (1.92)