In a nutshell (see references below):
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The U.S. economy is strong. The “soft landing” has happened. Economists do not see a recession in 2024.
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Employers added more than 300,000 jobs in March, and have added nearly three million in the past year. The unemployment rate has been below 4 percent for more than two years, the longest such stretch since the 1960s. Rising earnings have allowed Americans to keep spending even as the savings they built up during the pandemic have dwindled. Corporate profits are high.
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Economists now think the economy can withstand higher rates than they did not long ago. The Federal Reserve has said that they want a “neutral” fed funds rate (which does not stimulate or slow the economy) once inflation has sustainably reached their target of 2%.
The current fed funds rate is restrictive by crack cocaine money standards but inflation is still higher than the Fed’s target. It’s important to realize that the real fed funds rate is not higher than the historic rate before the Fed began to cut the rate sharply and hold it too low for too long after the mild 2001 recession, 2008 financial crisis and Covid. The historic 10 year Treasury real yield (pre-2000) averaged 2.5% over inflation so today’s 10 YT yield is actually low by that standard.
There is no reason for the Fed to cut the fed funds rate. The stubborn inflation rate is a reason for the Fed to hold steady. The markets love cheap money but the Fed’s mandate is maintaining full employment and their target inflation.
The markets run on animal spirits and anticipation. We have seen at least 3 post-Covid cycles when the markets got ahead of the Fed and then suffered disappointment. This is the pattern we are seeing now.
The stock market was volatile last week though not extremely so. The stock market is still in a bubble as shown by the CAPE. The Fear & Greed Index fell to Neutral. The NASDAQ bullish percent continues its downward trend. The trade suddenly dropped from risk-on to neutral.
The Treasury yield curve rose to almost flat at durations over 2 years. The options market doesn’t expect a fed funds cut until July at the earliest. The press is now discussing the possibility of no cuts in 2024. That is a huge difference from early 2024 when the markets were expecting 5 cuts.
There is a concern that the Treasury market will become glutted which would drive up yields. A record $8.9 trillion of Treasurys, roughly a third of outstanding U.S. debt, is set to mature just in 2024 and need to be refinanced. The nonpartisan Congressional Budget Office forecasts that the deficit will increase from 5.6% of U.S. gross domestic product to 6.1% in the next decade. Debt held by the public is set to expand from $28 trillion to $48 trillion in that time.
If inflation stays sticky bond yields will rise. This will exacerbate the deficit.
USD is rising. Oil and natgas seem to have stabilized. Gold and silver are still climbing.
Current events probably won’t impact the markets since Iran’s attack on Israel was blunted and doesn’t look to become a regional war.
The METAR for next week is overcast with some showers. I expect stock and bond prices to fall somewhat but no extreme moves. This is a replay of adjusting to reality after the markets got ahead of themselves.
Wendy
https://www.cnn.com/markets/fear-and-greed
https://www.wsj.com/finance/americas-bonds-are-getting-harder-to-sell-c3fde4de?mod=hp_lead_pos4