Sell off and recovery, recovery and sell off.
Talk about good news and bad news and bad news and good news. We have it all and markets are reacting on a daily basis. Sell off and recovery, recovery and sell off. This week is a big one. 100% expectation that the Fed will reduce interest rates. The question is ¼ point or ½ point. Often the Fed is behind the curve with interest rates. The bond market has already priced in a reduction. In fact, the inverted yield curve we have been discussing and pointing out since the inversion in 2022, well the anomaly has been corrected and the yield curve is normal. This normal yield curve is defined by the spread between the 2-year US Treasury yield and the 10-year US Treasury yield. It became severely inverted in July 2022 as the Fed engaged in a record setting consecutive increase in the Fed Funds rate. Generally, an inverted yield curve has resulted in a recession within 1 year, but fears of an historical repeat have almost disappeared. This does not mean it will not happen. Remember, economists are correct 50% of the time-we just do not know which predictions are in which 50%.
Recently, unemployment has increased, US factory activity has declined, and inflation is creeping closer to the Fed’s target of 2%. As we all know, this does not mean prices are declining. They are just increasing at a slower rate. Futures markets are betting that the Fed Funds rate could drop below 3% by the end of the year and with the Fed having 3 more meetings this year that would mean 3 ½ point reductions in the Fed rate. Two sides of the coin about these above normal reductions would be-negative for markets-what does the Fed know that I don’t know-positive would be cost of funds for auto loan, credit cards and mortgages and student loans would drop freeing funds to be saved or spent on consumer goods. Also, corporate debt would be cheaper-all good things.
We have been locking in interest rates on bonds, especially US Treasuries with 1-year maturities. We did get spoiled with rates higher than 5% but now 4% still looks good. We could be looking at much lower interest rates by the end of this year.
In the News
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