Idiosyncratic or Systemic?Do you believe the current banking 'crisis' is idiosyncratic or systemic? The short answer is it's still far too early to know. Hopefully it's more of the former and less the latter. Because if it's the latter, that's a problem. Last week's issues will become multiplicative (vs additive). 2008 was a global systemic banking crisis.... this is not 2008. At least not yet...
The Fed Must ‘Choose their Poison’The collapse of SVB and tightening financial conditions has put the Fed in a very difficult spot. For example, prior to the collapse they had a green light to raise at least 25 bps. Not now. Tightening rates could cause further pressure in the banking sector. However, if they choose not to - what signal does that send. There are no easy choices...
Powell’s PunchIn what was supposed to be a 'vanilla' testimony to Congress - Jay Powell turned this into a market moving event. Not pleased with how market participants interpreted his previous address - he set the record straight that rates will be higher for longer. His testimony left no room for ambiguity - it was full hawk. Markets quickly revised their forecasts for the peak Fed funds rate - with some now thinking 6.00%. What's more, the 2/10 yield curve is now negative 107 basis points. We have not seen that since 1981. Soft landing? Good luck.
10-Year Yields Continue to Rise… Why this MattersThe bond market has connected the dots - rates are likely to stay higher for a lot longer. This has seen yields all along the curve surge... with the 10-year now back above 4.0%. The 2-year has moved 100 bps in just 4 weeks. This has implications for stocks and their valuations... none of it great. Look for the 10-year to push higher - perhaps to 4.4% - which represents opportunity for investors.
Fed’s 2% Inflation Goal: A Long, Slow Fight Another month, another hotter than expected inflation report. This time it was one which the Fed focus on: "Core PCE". Expectations were for 4.3% YoY - it came at white-hot 4.7%. Where is the problem? Simple... services. And until we see unemployment tick higher... core services inflation will remain sticky. The Fed has a long fight on its hands... and the market is only recently connecting those dots
Bonds Realign with the Fed… Not EquitiesFrom the first week of 2023 - bond markets were at odds with the Fed. For example, yields on the 2-year treasury plunged from 4.50% to barely above 4.0% over the past 6 weeks. And yet - the Fed were resolute in their resolve to keep raising rates. Something was amiss. Turns out that bond markets have pivoted and now see 'eye-to-eye' with the Fed that rates are staying higher for longer. Go figure. However, equities are yet to get the memo.... that's risky.
Bonds React to “Higher for Longer“Bond markets (and the US dollar) appear to be reacting to the likelihood the Fed has 'more work to do' on bringing inflation down to its 2.0% target. For e.g., the US 2-year treasury has surged almost 50 bps the past couple of weeks on stronger than expected economic data (eg surging jobs and higher wages). Meanwhile, JP Morgan's CEO - Jamie Dimon - said it's too early to declare victory on inflation. What does this mean for stocks?
The market was worried about an overly hawkish Fed heading into the Feb FOMC meeting. However, Fed Chair Powell appeared to lean the other way... hinting at dovish tones. New language like 'disinflation' were introduced... suggesting the cash rate may not need to get to 5.0%. It didn't take much for stocks to rally as a result...
Peeling the Inflation OnionFed President John Williams uses the analogy of an onion when describing inflation. For example, the outer most layer consists of commodities. The middle layers consists of goods. However, the inner most layer - its core - consists of services. And it's services inflation which generates inflation inertia. And that's the mechanic which the Fed are exclusively focused on...
December CPI – The Good and the BadThere was a little of something for the bulls and the bears with December's monthly inflation report. On the surface, inflation is coming down. However, if we look underneath the hood, most of that inflation is goods. Services inflation however remains doggedly high (i.e. wages). And whilst goods inflation could fall to "zero" - if services inflation remains twice the Fed's 2.0% objective - they will continue to tighten (even if that means simply holding rates at a higher level)
