Similar story with the 10 year rates:
All the while, the odds for an interest rate increase in September are decreasing. That doesn’t seem to make a lot of sense. I would imagine that the stock market may over-react if the “priced-in” increase does not happen.
The bond market and the stock market are two different animals.
The fed funds rate is an overnight rate which impacts short-term loans such as the $1+ Trillion in margin loans which are supporting the stock market. The stock market is likely to respond favorably if the fed funds rate is not raised.
The bond market focuses on the fact that long term bond values drop dramatically if rates rise. The buyers (pension funds, insurance companies) look at factors which are likely to impact the supply/ demand balance on these long-term bonds.
A couple of months ago, I read the book, “The Price of Money: A Guide to the Past, Present, and Future of the Natural Rate of Interest.”
It is written and edited by members of the Bloomberg Economics team—including Jamie Rush, Tom Orlik, and Stephanie Flanders (along with chapters contributed by various Bloomberg economists).
In the book, each chapter examines a specific structural driver influencing r* (the neutral rate of interest which doesn’t stimulate or slow the economy) and long-term interest rates, explaining how forces such as rising government debt, shifting demographics, climate investment, AI productivity gains, and geopolitical fragmentation are combining to push r* and long-term bond yields structurally higher.
The key is the TIPS yield since that strips out the risk of inflation.
The 30 year TIPS yield is at a (non-crisis) record high of 2.96%. I bought 10 year TIPS in October 2008 when the TIPS yield was higher than the Treasury because of the financial crisis - which never happened before or since.
But we aren’t in a crisis now. For the 30 year TIPS yield to be 3% shows a profound concern from institutional bond buyers that the many factors described in the book will bite ever harder. The book didn’t even take the AI mega-spending into account, which adds more debt to the market without adding more demand.
I would say that the 30 year TIPS is a slam-dunk buy at 3%…BUT I’m afraid that long-term yields will creep even higher. That’s a risk I’m not willing to take. I have been buying short-duration TIPS (< 2 years) because they are yielding higher than CDs which aren’t even inflation-adjusted.
Wendy
Is that what happened in July when they held rates steady? I seem to recall the Dow losing 1.6%. S&P and NAS lost .5% each.
If the market doesn’t feel the Fed is being responsive to inflation, it will very likely lead to another sell off.
I agree with you…but nowadays moves can be pretty big and turn out to be noise.
Wendy
Currently baby boomers are little over 75 million; Traditionally they should have shifted from equities into bonds, but strong stock markets delayed this trend. Also, many are sitting with huge capital gains is also an issue. But expect this cohort to start aggressively moving out of equities if we get a sustained decline, that is market down for 12 months.
When that demand shows up, hopefully, US treasury, will switch from bills to long-term bonds and accept structurally higher rates, but bring balance to supply-demand.
Also, unlike dotcom bubble where the build out was fueled by credit but the revenue and cash flow didn’t materialize immediately, this time the buildout is resulting in many companies earning record profits… outside of Oracle other hyperscalers debt is not a concern viz-a-viz their operating cash flow.
We may still get favourable inflation print and Fed hike in next meeting, causing the long rates to stabilize or actually start coming down.
It’s closer to 65M than 75M, about a third of baby boomers have already died. And generally older people sitting on large capital gains are advised to only sell what they need to sell to live on, and keep the remainder of those gains until death so their heirs can benefit from the basis step up. Furthermore, people that “stuck it out” for decades (by definition if they have large embedded gains) are LESS likely to panic sell after a rapid decline, not more likely.
I’d guess that the ones that are more likely to panic sell during/after a rapid decline would be over-leveraged funds and the folks who invest in those funds. Mostly younger people. Didn’t we see an over-leveraged AI/DC fund blow up last week? (and didn’t we see a “boomer” firm pick up the remaining pieces at a discount?)
I am not talking about panic selling, rather, folks also remember markets going nowhere from 2000 to 2015 post internet bubble, and post AI bubble, they will be ready to sell, as they don’t have 2 decades for the market to recover.
BB don’t need to completely get out of stocks, rather increase their fixed income allocation will do. Higher interest rates are motivating some of those conversations.
I know there is a school of thought interest rates don’t impact valuation, but the recent interest rate raise creates a dynamic where long-term yield is now comparable to SP500 PE…
Slowly, slowly then suddenly…
Sorry, instead of “panic selling”, I should have said “aggressively moving out of equities” after a sustained decline.
These numbers are insignificant. It’s steady sailing.
The issue is disinflation into deflation over the next 12 months. I dont know how we escape it.
If inflation subsides from here well the evidence is in the pudding. Start to worry in a new and worse way.
@WendyBG when do we get our next inflation reading?
Next week on the 10th and 13th (CPI and PPI).
DB2
Core inflation, which strips out volatile food and energy prices, was up 2.5% from a year ago, and 0.2% from June.
DB2
The report follows several other indicators telling a similar story – that after a ramp-up in inflation earlier this year fueled by the Iran war and President Donald Trump’s tariffs, the rate of price increases is beginning to ease.
DB2
Yep. This is the foundation of “financial literacy” and why earning wage & salary income (or non-qualified interest income) is a loser’s game, tax-wise.
intercst
We wait and see, the risk is deflation going forward at some point. The risk is not inflation.