The Federal Reserve met on Wednesday and hinted that interest rate rises may happen sooner than expected. The time frame they projected was a 2023 increase but we all know there is no need to wait that long. You would have expected that bond yields would rise in reaction to this news but as you can see in the chart below, the opposite happened.
Why? If you consider that bonds can get oversold just like stocks then we can follow some of the same technical indicators to better understand what is going on. In the chart above, you can see a dramatic rise in 10Yr treasury yields – particularly in the first quarter of this year. Eventually that creates an unsustainable rise which needs to be corrected. We can see that yields actually topped in March and have been dropping ever since. So, the drop in yields this week is just a continuation of this pullback and the retracement levels in the chart (1.28%/1.13%/0.98%) are potential targets in the coming weeks (days). This drop in yields may seem confusing but this pattern looks typical of an uptrend and should continue higher towards the 2% area later this year. This also means that inflationary pressures will likely continue and that there will be a rate hike by the Fed sooner than expected. The chart of the 10Yr will be one to watch this summer.
You can see below how stocks reacted to the Fed news this week. A pretty sharp drop that has now created an oversold condition. The 4100 area should hold unless a larger degree correction is underway which would be a surprise given the rebound in growth we are seeing in the economy. The real question is how much longer until supply chains normalize so that there is clarity on wether inflation is transitory or enduring.
Chart of the Week!
As the following chart shows, food services experienced a rebound over the past few months. The overall spending exceeded the pre-pandemic level for the first time in May.
Economic & Central Banking Snippets
- Federal Reserve officials signaled they expect to raise interest rates by late 2023, sooner than they anticipated in March, as the economy recovers rapidly from the effects of the pandemic and inflation heats up. (WSJ)
- St. Louis Federal Reserve Bank President James Bullard said on CNBC the Fed has taken a more “hawkish” view on fighting inflation and hinted that policymakers might increase interest rates next year to combat rising prices. (Investopedia)
- The Fed’s $8T balance sheet grew by $112B this week. This was the largest one week increase since mid-March. This was likely not a coincidence given the message they were going to put out this week.
- Inflation is showing up everywhere as Germany said its producer price index for May rose 1.5% m/o/m, more than double the estimate. If you annualize the last 6 months of PPI increases that would amount to a 12.2% annualized rate of gain.
- The NY Fed reported in its monthly Survey of Consumer Expectations that “Median one year ahead inflation expectations increased by 0.6% in May to 4.0%. The 7th consecutive monthly increase and a new series high.
- After 6 straight weeks of declines, initial jobless claims unexpectedly rose to 412k from 375k last week which was well above the estimate of 360k.
Macro Snippets
- Commodities relative to stocks still look cheap despite the post-Fed pullback:
- General Motors said it will spend $35 billion on electric and autonomous vehicles through 2025—about 30% higher than a target set last November. The increase reflects plans to add two more battery factories in the U.S.
- The U.S. housing market needs 5.5 million more units, according to an industry report set to be released today. The National Association of Realtors says that the construction of new homes in the past two decades lagged behind historical levels, contributing to a recent surge in home prices.
- Shares of Lordstown Motors (RIDE) slid 18.8% Monday after the electric vehicle maker’s CEO and CFO resigned. The turnover comes days after the company warned that it had “substantial doubt” about its ability to continue as a going concern. (Investopedia)
That is all for now and thank you for being a subscriber!
Regards,
President – Kisco Capital