ALL EYES ON FED

Yield Inversion

As of writing this article, the latest 2-year and 10-year US Treasury rates are:

2-year: 5.04%

10-year: 4.31%

 

The 10-2 year Treasury yield spread is -0.67%, lower than the long-term average of 0.89%. The negative spread has historically been viewed as a precursor to a recessionary period.

 

The rise in Treasury yields in recent months is due to a number of factors:

  • The Federal Reserve’s plans to raise interest rates in an effort to combat inflation.
  • The ongoing war in Ukraine and its impact on global energy and commodity prices.
  • Increased risk aversion among investors as Chinese property giant default.

 

 Impacts on Economy, Assets and Investments

The rise in Treasury yields has weighed on stock prices in recent months. However, it is important to note that Treasury yields are still relatively low by historical standards. This suggests that there is still room for further rate hikes before they start to have a significant impact on the economy.

  • Cost of Capital and Investment: Rising yields increase the cost of capital for businesses, which can make it more expensive to invest in new projects. This can lead to slower economic growth, as businesses may delay or cancel investment plans. Additionally, rising yields can make it more difficult for businesses to borrow money, which can also dampen investment.
  • Housing Market: Rising yields can also have a negative impact on the housing market. This is because higher yields make it more attractive for investors to put their money into other assets, such as bonds, which can reduce demand for housing. Additionally, higher mortgage rates can make it more expensive for people to buy homes, which can also reduce demand.
  • Economic Activity: Overall economic activity can also slow down in response to rising yields. This is because higher yields can make it more expensive for businesses to borrow money, which can lead to slower investment and hiring. Additionally, higher yields can make it more difficult for consumers to borrow money, which can reduce spending.
  • Stock Market: Rising yields can also lead to a decline in stock market valuations. This is because higher yields make stocks less attractive relative to other assets, such as bonds. Additionally, higher yields can make it more difficult for companies to borrow money, which can lead to lower earnings growth and stock prices.

 

All Eyes On Fed

The Federal Reserve’s policy decisions are also influenced by real rates. The Fed’s goal is to keep inflation at a low and stable level. When real rates rise, it can help to slow down inflation. However, if real rates rise too high, it can also lead to slower economic growth. The Fed will need to carefully balance these two objectives when making policy decisions.

 

How the Fed responds to the normalization of real rates, especially considering the ongoing context, could impact financial stability. The ongoing war in Ukraine and the COVID-19 pandemic are two major risks to the global economy. If the Fed raises interest rates too quickly or too aggressively, it could lead to a financial crisis. However, if the Fed does not raise interest rates enough, it could lead to higher inflation. The Fed will need to carefully consider all of these risks when making policy decisions.

 

Powell’s stance at the upcoming Jackson Hole event will likely be considered as a balancing act. The Jackson Hole Economic Policy Symposium is an annual event where central bankers from around the world gather to discuss economic policy. Powell is likely to use his speech at this event to signal the Fed’s plans for monetary policy in the coming months. It will be important to listen carefully to what Powell says to get a sense of how the Fed is thinking about the normalization of real rates and the other risks facing the global economy.

For more insights and analysis, visit Uptrendpicks.com

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