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Last Week in Review: Powell Press Conference Shakes Markets

This week interest rates revisited 2022 highs in response to the Fed meeting, where the Federal Reserve raised the Fed Funds Rate by .75%. Let's discuss what happened and investigate the week ahead.

"It's very premature in my view to be thinking about or talking about pausing our rate hikes. We have a ways to go." Fed Chair Powell at Wednesday's press conference. 

This quote, which took place 30 minutes after the Fed raised rates, was the main driver in a selloff in stocks and bonds. Stocks reversed 900 points lower intraday and the 10-year yield went from 3.97% to 4.11%.

Heading into the meeting there was growing speculation that the Fed would somehow tell the markets that future rate hikes would be smaller. There was even a Wall Street Journal article a couple of weeks ago which highlighted the debate Fed members had about how to message this "step down" of lower rate hikes ahead.

Mixed signals = Uncertainty and Volatility

"In determining the pace of future increases in the target range, the Committee will take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments." FOMC Monetary Policy Statement - November 2022.

This line within the statement was initially read as a positive sign to both stocks and bonds that the Fed will pause or slow the pace of rate hikes to allow the existing rate hikes to seep into the economy.

However, just a short 30 minutes later at the press conference, Fed Chair Powell did not let the markets believe the Fed will make a smaller hike in December. Yet at the same time, he said "it could happen."

Some other hawkish Fed quotes which led the market to believe the Fed will continue with higher for longer with rates were the following:

• "Don't think we have overtightened"
• "No sense of inflation coming down"
• "Overheated labor market"

Other Central Banks Around Globe Are Hiking

The Bank of England also raised their benchmark rate by .75% and said, "if we do not act forcefully now (against inflation) it will be tougher later on." As yields around the globe inch higher, it pulls our yields higher as well. The opposite is true.

Fed Rate Hikes and Home Loan Rates

It is important to remember, the Fed is looking to raise the Fed Funds Rate (an overnight rate) to potentially 5.00% sometime in the spring of 2023. And the Fed's goal, for the moment, is to hold it elevated until inflation comes down to 2%. The Core PCE measure is currently running at 6%.

Long-term rates, like the 10-year yield and home loans, will only increase if the economy can absorb the hikes. Right now, those rates are showing some resistance to move higher, suggesting the economy can't afford the higher rates without slipping into a recession.

Fed Chair Powell closed out his press conference by saying the chance of seeing a "soft landing" in the economy has "narrowed." The increased threat of a recession will limit how high rates will go and for how long.

Looking Ahead

It's a big week with Election Day on Tuesday and an important inflation reading, the Consumer Price Index (CPI) on Thursday. If the inflation reading comes in soft, we will very likely see smaller rate hikes next month. If the reading comes in strong and supports the Fed's "no sense of inflation coming down" mantra, then we could very well see another .75% increase in December.

Last Week in Review: Central Bank Step Down

This past week we watched interest rates improve nicely on the notion that central banks around the globe will be hiking rates less going forward. Let's break down what happened this week as we approach the important Fed meeting next Wednesday.

"We've made substantial progress in withdrawing accommodation" - European Central Bank (ECB) President, Christine Lagarde 10/27/22.

This was the line of the week. It suggests that the ECB is going to raise rates by less going forward. The global financial markets agreed as they are now pricing in a .50% ECB rate hike in December versus a .75% right before the announcement.

Why is this ECB move important?

Last Friday, the Wall Street Journal wrote an article that suggested our Federal Reserve is going to do the same thing next week...raise rates by .75% and shared that they will do less rate hikes going forward.

As a result of the "step down" or smaller future rate hike talk, yields around the globe moved lower.

3-Month T-Bill And 10-year Note Yield Inversion

There is a lot of chatter about yield curve inversions and the likelihood of a recession. Just this week the 3-month Bill and the 10-year Note yield inverted. This means, the 3-month T-Bill is yielding more than the 10-year yield. The Federal Reserve has acknowledged that they look at this metric as a sign of a recession ahead.

If there were another reason for the Fed to step down the size of future rate hikes, it is seen in the 3-month Bill and 10-year Note inversion.

The Case For The Fed "Step Down"

Besides other central banks around the globe signaling the likelihood of smaller rate hikes in the future, there are reasons the Fed could "step down" and reduce the size of rate hikes going forward.

Here they are:

1. It is estimated that a Fed Rate hike takes about six months to have an impact on the economy. This means the Fed will likely raise the Fed Funds Rate by 3.50% in the second half of 2022 and those hikes have not even made an impact on an economy that is already slowing.
2. The 3-month T-Bill/10-year Note yield inversion. The last time this happened back in 2019, the Fed "cut" rates six months later. We do not expect a rate cut, but we should certainly expect the Fed to pause on larger rate hikes and see what impact they now have since that a key metric has taken place, like this inversion.
3. We can't afford it! With $31 trillion in government debt and $16.5 trillion household debt, we can't afford rates to move too high so the Fed will need to be careful with how high they lift rates.
4. Housing has slowed dramatically and is a major driver of the economy. We do not need to see much lower rates to have a healthy housing market, we just need some clarity and stability and that could come with the Fed signaling a slowdown of larger rate hikes.

Looking Ahead

The main event is the Fed meeting next Wednesday at 2:00 p.m. ET. There will be multiple market reactions including one on the monetary policy statement, another at the 2:30 p.m. ET press conference from Fed Chair Powell and another more powerful one on Thursday morning. And if that were not enough, we will get the October Jobs Report next Friday.

Last Week in Review: Higher Prices and Higher Rates in a Global Issue

This past week we watched the 10-year yield hit a fresh 14-year high, closing above 4.00%. As a result, home loan rates also ticked higher. Let's discuss what happened and investigate the week ahead.

Inflation Is High Everywhere

Global yields continue to push higher, as inflation continues to rise across most of the globe. In the UK, core inflation rose by 6.5% annually, the highest rate in decades. This high reading pushed their 10-year government bond, the Gilt, to 4.00%, the highest level in 14 years.

As yields around the globe push higher, it applies upward pressure on our yields. It is a big reason why our 10-year note touched 4.12%, the highest level since 2008.

Resistance Becomes Support

The 10-year note crossing above 4.00% carries some significance. Up until this week, 4% was acting as a ceiling of resistance limiting how high rates could go. Now it appears 4% will serve as support, thereby limiting how much rates can improve in the near term. Essentially, we went from 4% being about as bad as rates could get to seeing 4% being about as good as rates could get.

The "R" Word Gaining Steam

Through most of this year many Federal Reserve officials resisted using the word recession to define where the economy is and where it may be headed. That has changed in recent weeks.

Besides a few officials acknowledging a recession risk is high, this week many big names on Wall Street are calling for a recession. Those names include Goldman Sachs, JP Morgan and Bloomberg. The latter suggests the chance of a recession in the next year is 100%.

It's not clear if and when a recession will hit or how deep and lasting it will be. The good news is our labor market remains tight and the consumer still has the urge to spend. This bodes well for the economy to resist a deep recession and it also will help housing thrive in the future.

Looking Ahead

The economic calendar is chock full of reports which feature the first read on Q3 Gross Domestic Product after Q1 and Q2 saw negative prints. Also, the Fed's favorite inflation measure, the Core Personal Consumption Expenditure, will be released. Earnings season will be in full bloom with many big names reporting numbers.

Last Week in Review: Inflation Remains High, Markets Looking Forward

This past week, we witnessed the highest consumer inflation reading in 40 years and the markets responded. Let's walk through what happened and investigate the week ahead.

Consumer Prices Still Rising

On Thursday, the Personal Consumption Index (CPI) was reported at 8.2%, which was higher than expectations. What is of bigger concern is the month over month rate of inflation was reported at 0.4%...double expectations of 0.2%. The monthly increase is what the Federal Reserve watches closely to see if inflation is peaking.

Shelter makes up 40% of consumer inflation and that component rose 6.6% year over year. For inflation to come down to the Fed's target of 2%, we will need to see rents come down and this will take some time.

Here's what we learned with the high inflation reading. First, the Federal Reserve is now very likely to increase the Fed Funds Rate by .75%. It also means they will continue to talk tough and maintain a position of higher for longer for rates.

The Market Reaction

It's a good time to be reminded that the Fed only controls the Fed Funds Rates, which is a short-term, overnight rate. Long-term rates, like the 10-yr Note will only go up IF the economy can absorb the higher rates. Despite rates spiking in response to the inflation numbers, the 10-yr Note yield was stopped at 4%. This is because the markets are forward looking and sensing slower economic conditions ahead will lower inflation.

Fed Rate Hike Impact

Another reason long-term rates may be approaching their peak is to consider why the Fed is hiking rates to begin with. The Fed is hiking rates to lower inflation, slow demand, create unemployment and lower asset prices. All these things are beneficial to long-term rates.

Looking Ahead

The economic calendar is lean here at home with just housing on the docket. There will be plenty of Fed speak and central bank activity around the globe to track as well as corporate earnings being reported.

Last Week in Review: Bank of England Blinks, Interest Rates Sink

This past week, we watched the sharpest one-day decline in Treasury rates since 2008. The rate relief was relatively short-lived as uncertainty and volatility reign supreme in the financial markets. Let's recap what happened and investigate the big news in the week ahead.

Last Wednesday morning, in a surprise move, the Bank of England administered a new bond-buying program to help stabilize their bond market as yields were soaring in the region.

What happened? In the previous week, UK's Prime Minister Liz Truss, announced a new fiscal program with tax cuts across the board. The bond market questioned Britain's ability to grow its economy and pay off any existing newly created debt required to help pay for the tax cuts.

If bond holders believe there is a risk of being paid back their principal, they must demand a higher interest rate. This is essentially what happened on a large and fast scale in England. So, the Bank of England stepped in and said they would purchase unlimited bonds (quantitative easing) in order to calm markets and keep rates from rising too high.

Within hours of the Bank of England's decision, our Treasury market, and mortgage-backed securities (MBS) market soared with prices moving sharply higher and yields dropping quickly. The 10-year note yield closed near 3.70% after touching 4.00% earlier in the day. This represented the largest one-day rate decline since 2008.

In the MBS market, we watched a nice bounce in bond prices and recovery in home loan rates, after touching a 2022 high on Monday.

The Bank of England news gave our financial markets a sense the Federal Reserve rate hiking cycle may start to slow. This notion was further enforced after Fed member Bullard spoke earlier in the week. He noted that the current Fed Funds Rate (what the Fed hikes) is restrictive, meaning that it is hurting the economy. He was also the first Fed official in quite some time to mention the word recession, acknowledging that our economy is slowing quickly, and higher rates are going to likely push us into a recession. He finished by saying the "terminal rate" or the rate the Fed Funds will be upon the last hike of this cycle, will be 4.40%, still 1.25% above current levels.

At least through mid-week, the bond market has begun to react as if the Fed rate hiking cycle is nearing the end. We still need to see a lot of incoming data by way of inflation, employment, and economic numbers to support whether the Fed could slow its rate hikes. For now, Fed Chair Powell says he wants to keep rates higher for longer to stave off inflation. At some point, like we caught a glimpse this week, with the 10-year note yield declining, the Treasury market will buck against going higher and say enough is enough.

Bottom line: The 10-year Note yield reversed sharply after hitting 4.00%. Hopefully, this ceiling will hold, which would limit any further increase in rates. With housing inventory increasing and sellers making concessions to help make deals, now may be a wonderful time to explore housing opportunities.

Last Week in Review: Three Things We Learned From Federal Reserve

This past week, the Federal Reserve raised the Fed Funds Rate by .75% and issued its quarterly economic projections. In response, home loan rates ticked up to a new 2022 high. Let's discuss three things we learned from the Fed Meeting and what to watch in the weeks ahead.

"In support of these goals, the Committee decided to raise the target range for the federal funds rate to 3 to 3.25 percent and anticipates that ongoing increases in the target range will be appropriate."  Fed Statement Sept 21, 2022.

1. The Federal Reserve Is Not Very Good At Forecasting

The .75% rate hike lifts the Fed Funds Rate to a range of 3 to 3.25%, the highest since Jan 2008. This increase will affect short-term loans like credit cards, autos, and home equity lines of credit.

Along with the rate hike, the Fed released its quarterly economic projections. This means every three months they update their projections on economic growth, inflation, and the path for interest rates.

If you follow what they have forecasted for the past couple of years, it's clear the Fed has underestimated inflation, overestimated economic growth, and underestimated how high they want to raise rates.

Back in June, the Fed forecasted economic growth to be 1.7% for 2022. Three months later, they now see the US growing at a slim 0.2% level. Also back in June, the Fed had forecasted Core inflation to be 4.3% for 2022. Now they expect inflation to be higher at 4 to 5%.

Lastly, on the Fed Funds Rate, the Fed expected the rate to increase to 3.4% back in June. Now, the Fed sees the Fed Funds Rate at 4.4%.

The market's reaction – lower stocks and higher rates mimic the uncertainty and volatility we hear from the Fed and economic readings.

2. The Federal Reserve Can't Say Recession

Despite downgrading economic growth at each of the last few quarterly projections and the Atlanta Fed forecasting 3rd quarter GDP to be just 0.3% on the heels of a contraction in the first half of 2022, The Fed has never used the word recession to describe where the economy is or where we are headed. The Fed reiterated that we will all feel economic pain because of their inflation-fighting efforts. He also said the chances for a soft landing are slim. All of this means, the US economy may already be in a recession and headed towards something potentially worse as the Fed also wants to create some unemployment.

Seeing the 2-yr yield rise to 4.11% and well above the 10-yr Note means the bond market is telling us the economy is headed towards a recession, despite our central bankers' inability to utter the word.

3. Higher For Longer

Fed Chair Powell reiterated several times during his press conference that the Fed will raise rates higher and hold them elevated until inflation comes back down to the Fed's target of 2.00%.

The markets are currently pricing in yet another .75% hike in November and a .50% hike in December. This could change if we see a softer inflation reading or surprisingly soft labor market or growth readings.

A reminder - the Fed only controls a short-term overnight rate and long-term rates like the 10-yr Note, which will signal how high and long rates will stay elevated. Seeing a wide yield curve inversion between the 2 and 10-yr Notes suggests the economy will have a difficult time absorbing the hikes without a recession.

Bottom line: The 10-yr Note yield closing above 3.50%, means we should not expect much or any improvement in rates in the near term. We now have to follow the incoming data carefully, which should tell the bond market and The Fed whether economic conditions warrant higher rates.

Last Week in Review: Prices Still Rising, Fed Still Hiking

We saw some surprisingly hot inflation numbers which hurt the financial markets and pushed rates to the highest levels of 2022. Let's walk through what happened and look into the week ahead.

Inflation Remains High

Last Tuesday the Consumer Price Index (CPI) was released, and it showed inflation remains high and a problem for consumers, the economy, and the Federal Reserve.

The headline CPI, which includes food and energy costs came in at a hot 8.3% year over year, higher than expectations of 8.1%. This number remains near a 40-year high despite getting some relief at the pump. The more closely watched Core CPI number, which removes food and energy, came in at 6.3%, a big month-over-month jump from 5.9% in July.

What caused Core CPI to jump so high? The housing component, which makes up 31% of CPI rose a lofty 0.7% for the month. This tells us that inflation will remain higher longer than we would like.

No Fed Pivot

Stocks were rallying into the CPI release, sensing and "pricing" in a softer inflation number. Upon seeing the higher reading, the Dow had its 7th worst daily loss in history. This is because the high CPI means the Fed will continue to hike rates to slow demand, which sharply elevates recession fears.

Further proof of the concern is seeing the 2-year yield spike to a 15-year high at 3.80%, which remains well above the 10-year yield of 3.44%. This wide yield curve inversion portends a recession.

The Good News

We all must remember that the Fed is raising rates to slow inflation, create unemployment, slow demand, and lower asset prices...all of these are good for long-term bonds and home loan rates. It is why we are seeing the 10-year yield rise as high as the 2-year.

There is a limit to how high long-term rates will go, and we could be nearing the limit.

The 10-year yield, while up slightly this week, remains below the 2022 peak seen in June. An important level to watch is 3.49%. If the 10-year yield moves above this important ceiling, rates will move up another level. If it can stay beneath this important marker, there is an opportunity to see that these will be the peaks for the year.

Bottom line: The Fed controls the overnight Fed Funds Rate and that rate is going higher next week. Longer dated Treasuries, like the 10-yr Note, control the Fed and right now we are seeing those long-term yields resist going higher because the global economy is sliding towards recession. It remains a great time to secure a home loan that is lower than the current rate of inflation.

Last Week in Review: Financial Markets Attempt to Stabilize

After several weeks of higher rates and lower stocks, the financial markets stabilized a bit. Let's walk through what happened and look into the week ahead.

When Words Don't Matter

"I am more focused on if balance sheet reduction will affect liquidity in markets than impact on fed funds rate. Fed should contemplate selling Mortgage Backed Securities (MBS)" Cleveland Fed President Loretta Mester, September 7, 2022.

This quote is reminiscent of the Fed jawboning that has hurt stocks and elevated long-term rates throughout the year.

However, last week it had no effect as the bond markets did say enough is enough with rates improving a touch year over year.

"The outlook for future economic growth remained generally weak, with contacts noting expectations for further softening of demand over the next six to twelve months." Fed Beige Book September 7, 2022.

The Fed Beige Book is gathered by the Federal Reserve Bank of San Francisco from districts around the country and represents comments from different communities. One of the big takeaways from the "Beige Book" is this quote where people across the country are expecting a further slowdown in economic growth or elevated threat of a recession. They also expect demand to decline, which is what the Fed wants as less demand means lower prices or lower inflation.

Lower Oil Prices Means Lower Inflation

The price of a barrel of oil hit $82, well off the 2022 highs of $130 and the lowest levels since February. The main drivers for the consistent drop in price are elevated global recession fears and the U.S. Dollar trading at the highest level in decades, thanks to the tough talk and action by the Federal Reserve. Should Oil prices continue to decline, we should expect headline inflation, where energy is a main input, to decline as the Fed wants.

The ECB Goes BIG

Last Thursday, the European Central Bank (ECB) raised their benchmark deposit rate by .75% matching the largest increase in their history. The Euro region is struggling economically and will also be challenged to avoid a recession. If Europe and other countries around the globe struggle, it makes our U.S. Dollar and Treasury yields look relatively attractive, meaning, there will be a limit to how high long-term rates will go.

Bottom line: Much like the Fed did in the first half of the year they are "jawboning" the market by saying they will continue to raise rates and be very aggressive in doing so. The only rate they can raise is the Federal Funds Rate. With recession fears escalating there will be a limit to how high interest rates will go and we are watching the June rate peak as a ceiling for 2022.

Last Week in Review: What's Happening in The Markets?

The financial markets had a rough week, with stocks falling and rates spiking since Fed Chair Powell spoke in Jackson Hole. Let's walk through what happened and look into the week ahead.

"While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses." Fed Chair Jerome Powell – Friday, August 26, 2022.

This line set off the selloff in stocks and bonds and continued throughout this week.

The 2-Yr note which attempts to mimic fed interest rate activity, spiked to the highest level in 15 years. Mortgage-backed securities (MBS), which are where home loan rates are derived, fell sharply causing home loan rates to rise to the highest levels since June. And in a sign that a recession is here or forthcoming, the 2 and 10 year note yields remained deeply inverted suggesting pain is here and will likely continue.

On top of the Fed Chair's tough talk, we also had several Fed officials talking very hawkish which further stoked the rate hike fears. As of today, the chance of a .75% rate hike at the end of September is essentially fully priced in. This means that the Fed Funds Rate, which is an overnight rate, will be higher than the 10-year Note yield. This is typically a negative sign for the economy.

And if this were not enough pain for the bond market, we are now into September, where the Fed is slated to ramp up balance sheet reduction to the tune of $95B per month. This means the Fed will be providing even less support for the bond market. There is no clear formula on what the impact of balance sheet reduction will be on the economy. This adds to the uncertainty, volatility, and pain we are seeing in the financial markets.

Bottom line: Much like the Fed did in the first half of the year, they are "jawboning" the market by saying they will continue to raise rates and be very aggressive in doing so. The only rate they can raise is the Federal Funds Rate. With recession fears escalating, there will be a limit to how high interest rates will go and we are watching the June rate peak as a ceiling for 2022.

Last Week in Review: Rising Rates and New Home Sales

August has not been kind to bonds and interest rates. Even though the Federal Reserve did not hold a meeting in August and is not slated to raise rates again until the end of September, long-term rates moved higher. Let's break down what happened and look into the week ahead.

Rate Volatility and Uncertainty Continues

Mortgage-backed securities (MBS), where home loan rates are derived, have declined since the beginning of August, losing nearly 200 bps through this week. As prices decline, rates move higher. This drop in MBS prices pushed home loan rates higher by .50% and more.

The continued volatility and uncertainty centered around whether inflation has peaked, if the labor market is softening and what the Fed is going to do about it...hike rates and shrink their balance sheet.

On the balance sheet reduction front, come September, the Fed is slated to double the current caps to $95B. What does this mean? Starting next month, the first $60B in Treasuries and $35B in MBS proceeds the Fed receives through bond maturing, refinance or purchase activity will be given back to the Treasury rather than reinvested in bonds. This is how the Fed will shrink the balance sheet by $95B per month.

It is worth noting that balance sheet reduction or Quantitative Tightening is not tested and there is no formula as to its impact on the economy, so the Fed is going to proceed with this enhanced $95B monthly runoff until something weird happens in the financial markets just like it did in their previous attempt to shrink the balance sheet back in 2018. This underlying uncertainty as our economy slows is also unnerving for both stocks and bonds.

Yield Curve Remains Inverted

The 2-year yield (3.34%) has been higher than the 10-year (3.07%) for weeks and hit nearly .50% which is the widest inversion in this century. Every time this inversion has emerged over the last 50 years it accurately preceded a recession. We are either in a recession or at its doorstep and future readings will tell.

New Home Sales Recession

New Home Sales in July plummeted to an annual rate of 511,000, representing a year-over-year decline of 29.6%. The supply of new homes available to sell increased to a 10.9-month supply; the largest since March 2009. August's reading could also be bad considering rates spiked sharply.

The Fed was looking to remove froth from housing, and it appears that goal has been accomplished. The recent weakness in housing was necessary and healthy for the long-term market. The pace at which home prices were rising was unsustainable.

As far as new home sales go, builders are going to proceed very slowly, if at all, on new projects until inflation, rates, and the 10.9 month supply ease. This soft patch in new home sales provides a great opportunity for a buyer as new incentives are emerging around the country to help move inventory.

Oil Back Above $90 a Barrel

Oil, the main input in headline inflation is back on the rise, having eclipsed $94.00 a barrel. If inflation continues higher it will embolden the Fed to increase rates further. But remember, the Fed controls short-term rates. The Treasury market and long-term rates tell the Fed what to do and with the yield curve inverted, it is saying the economy is slowing and we can't afford much higher rates.

Bottom line: Home loan rate improvement has stalled of late as financial markets try to figure out whether inflation has peaked and how far the Fed will go with rate hikes. Until the next Fed Meeting, we should expect more uncertainty and volatility. Meantime, there are many opportunities in housing as we see increased inventory and price reductions.