RE: FED POLICY...
“I think instinctively – I can't prove this, we're going to learn about this empirically – but...
“...but it seems to me that the neutral rate is probably higher than it was during the intra-crisis period. And so, rates will be higher." (Jerome Powell, July 2024)
Powell's comments were from an interview conducted two months prior to the announcement that the Fed Funds target rate was lowered after more than two years of higher interest rates.
Investors, of course were expecting a cut and had been salivating over its prospects dating back to the fourth quarter of 2022. At times, there were veiled indications of such a change in Fed interest rate policy, but Powell was steadfast in his warnings about higher interest rates for a longer period, nonetheless.
In my article, "And So, Rates Will Be Higher For Longer - Powell", I said the following...
"These latest comments reinforce what Powell indicated in his testimony before the United States Congress last week and confirm that he is not confident yet that the downward trend toward the Fed's 2% inflation target can be maintained." And, that rather than focusing so intently on an imminent rate cut, investors would do better by considering what comes after the initial cut.
Finally, I said "In other words, it is possible that a rate cut this year, if it happens, might be more symbolic in nature than anything fundamental as far as changes in direction of interest rate policy is concerned."
WHAT HAS HAPPENED SINCE?
Since the Fed announcement, U.S. Treasury bond prices have dropped 11% from a 52-week peak of 101.64 to 90.15 at today's (December 13th) close. Below is a chart of TLT (20-year Treasury Bond ETF)...
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Why are bond rates rising at the very time the Fed is trying to force interest rates lower?
I answered that question in a previous article Fed Cut Rates, But Bond Rates Are RISING:
"A singular possibility is that the bond market sees something other markets don't; at least, not yet. What is likely troubling to the bond market at this time is the threat of a resurgence of inflation; more correctly, the effects of inflation. Cheaper money and credit now, in the short term, could have serious negative consequences later on. Bigger increases in the CPI and PPI will get everyone's attention."
Just this week, CPI and PPI rates caught the attention of those who were least expecting it. The unwelcome increases in prices for both consumers and producers will not help the Fed's case for lower interest rates.
CONCLUSION
Interest rates are set in the bond market. Bond investors decide what returns they will accept. Their actions since mid-September are contradictory to the Fed's expressed policy intentions and are a warning to investors in other markets, particularly stocks.
There is also the potential for a full-blown liquidity crisis and wide-scale bank failures. In that case, expect short-term interest rates to soar on the upside.
How bad are things? A fellow long-term investor and analyst summarized it this way...
"Both the Fed and the U.S. government are bankrupt. Banks are in deep trouble, too. Europe is a war zone and mired in financial catastrophes and economic depression." (also see If The Markets Turn Quickly, How Bad Can Things Get?)
Kelsey Williams
Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN'T, AND WHO'S RESPONSIBLE FOR IT and ALL HAIL THE FED!