- It is here…. The FOMC decision – 75 bps is NOW the call.
- 10 Yr. treasuries continue to fall sending yields higher
- Eurozone bond yields spiking higher as well – ECB Emergency meeting today
- Try the Watermelon/Tomato Summer Salad
Good morning…well, it is here…. In just 7 hours the FED will make the next announcement…. Will rates rise by 50 bps, 75 bps or even 100 bps?
Well – Investors/traders and algo’s continued to debate that very question over the last couple of days because suddenly the story line changed. What was all set in stone suddenly got thrown into a tailspin…as inflation shows no signs of slowing down and in fact is showing signs of continuing to heat up…? the Friday CPI report setting off a new round of angst and concern, and the yesterday’s strong PPI report also suggests that we can expect inflation to remain elevated at least for the foreseeable future.
The PPI (Producer Price Index) rose by 10.8% slightly below the expectation of 10.9% but still at 40 yr. highs….and this is sure to continue to keep consumers, the FED, and the administration on edge.
Then the sudden change of plans hit the tape on Monday morning just 2 days before the FED’s announcement and that is what set the place on fire….You see, JJ kept telling us that they had it under control that they would need to raise rates by 50 bps for at least the next two meetings…and then sit back and watch….that year end rates should be in the 2.75% – 3% range. They hammered that message home for weeks even as so many street analysts/strategists (myself included) questioned it. All the big banks falling in line – telling the same story as they teamed up with the FED to try and calm the markets.
But that is not going to be how the story gets written…. the FED has been backed into a corner that they cannot get out …. and now they are losing credibility. The surprise story in Monday’s WSJ laying it out…. The members of the FOMC (Federal Open Market Committee) are nervous and concerned – and the 50-bps story isn’t gonna make it happen, so what can they do? They had promised the markets that they had in under control and no one should worry, but that is no longer the case, they had to change the narrative and they needed to do quickly……Conveniently – they leaked a story about having to become more aggressive, that raising rates by 75 bps is what needed to happen and then they called up all the big investment banks to get them to fall in line and support the new narrative. Nearly EVERY big bank has now fallen in line and changed their view about what should happen today…. It is funny how they do that or risk getting boxed out! This created all kinds of drama on Monday and that saw markets decline by more than 3.5% and then struggle again on Tuesday. By the end of the day yesterday – the Dow lost 150 pts, the S&P lost 15 pts, the Nasdaq gained 20, the Russell lost 7 and the Transports added 275 pts.
So here is the how we stand at 6 am on Wednesday…. After all of the drama – the FED is backed into a corner – they have to raise rates by at least 75 bps otherwise they will be viewed as completely impotent. In my opinion – a 50 bps move will now cause investors/traders and algo’s to hit the SELL button because it will be viewed as weak.
A 75-bps move is what the investors now expect, and this should help markets stabilize if not attempt to move a bit higher in what some tell us is an oversold condition. This expectation being fed by all the drama created in the last 48 hours. Now look, the story should have always been about a 75 bps or even a 100 bps move all along – inflation has been surging and there are no signs of it abating and if inflation is now the FED’s number 1 issue – then make it the issue and fix it. JJ and the FED (once again) misjudged the current environment and misjudged investor reaction. The story coming out of the FED was mixed with some sticking to the plan while others pushed for the FED to be more aggressive – but JJ is the chair and, in the end, he has to tell and sell the story.
Futures are up this morning – nothing dramatic, but they are up as the reality of a more aggressive FED takes root. The Dow up 105 pts, the S&P up 15, the Nasdaq up 55 pts and the Russell up 8.
Expect the markets to churn most of the morning….as the speculation continues to grow…. but what will be the telling moment will be what JJ says at the 2:30 press conference. Will he really believe what he is saying? Will the markets believe what he is saying? He needs to say – ‘Look, we screwed up – We kept rates too long for too long, we bought too many bonds for too long and now we have woken up the monster…so now we have to reverse course and do it quickly or risk the 1980s’ style economy defined by one word – Stagflation – persistent high inflation combined with stagnant demand and rising unemployment.’
If the FED fails to navigate this properly, the risk is a ‘crash landing’ and that risk is rising every day – no matter what they tell you. The consensus now is for us to see 2 – 75 bps rate increases that takes us to 2.5% by September and then a new look. What will the macro data show over the summer? Will 2 aggressive hikes make a difference and allow the FED to go back to 25 bps hikes thru year end or will they need to continue being more aggressive? Just fyi – the consensus is for fed fund rates to be closer to 3.5% – 3.75% by year end – which really means we need 3 – 75 bps moves or some other combination of hikes to get us there in what some describe as a desperate move.
The 10 yr. treasury ended the day yielding 3.4% and they haven’t even started reducing the balance sheet with any real intent….and as investors recognize that the ‘buyer of last resort ‘ is no longer hanging around – what do you think happens to bond prices? They are not going up, that is for sure….and institutional buyers will bid lower to test the angst of the sellers, just like they are doing in stocks…and they will continue to do so until investors are convinced that this is under control.
As bond prices decline, bond yields will continue to go up until the FED halts rate increases…and with at least 4 more hikes after today – we can expect that 10 yr. yields will be somewhere in the 4’s by year end….30 yr. mortgage will be closer to 7% and housing will stall and begin to back off…. taking out lots of the fluff that was created by artificially low rates for way to long. And do not forget – higher rates affect everything…. mortgages, revolving credit, HELOC’s (Home Equity Lines of Credit), auto loans – everything. So, expect all of those payments to go up which will put more and more pressure on consumers and the economy.
Now there are other eco data points due out today….at 8:30 we are going to get Advanced Retail Sales and they are expected to be +0.1%, Sales ex autos and gas of +0.4%, Business Inventories of +1.2%. Tomorrow we will get Housing Starts and Building Permits and that will begin to tell another story – that is directly related to interest rates. Both expected to be lower – Starts by 1.8% and permits by 2.5%.
European markets are up this morning after being beaten up as well over the last couple of days (and months!). This morning the ECB announced an emergency meeting as surging bond yields across the Eurozone are beginning to create a new issue for the bank. Last week – ECB Pres – Christine Lagarde laid out the plans for tightening and with that bond across the Eurozone began to collapse sending yields higher. Why is anyone surprised?
We broke 3800 on the S&P and now 3600 is in sight…. My sense is that it needs to be tested but calls for S&P 3400 and 3100 by MGS and GS are out there…. levels I think might be a bit overdone- but if the S**t hits the fan – then all bets are off.
Pay close attention to what Powell says about the size of the likely rate hike in July and the months beyond. I anticipate that he will show more flexibility to larger rate hikes given the latest CPI report, the stalling housing market as 30 yr. mortgage rates are now approaching 6%, surging gas and food prices, ongoing supply chain disruptions and inflation that is not responding to the narrative, he probably regrets being so dismissive about larger hikes back in May.
The S&P closed at 3735 – breaking my 3800 targets fairly significantly and that puts 3600 in the line of sight. Now we could see a ‘rally’ today if the markets like what they hear, but in the end – this is not a one off, rates are on the rise and it is incumbent on the FED to try and navigate some kind of a landing…and I do not think it’s going to be a soft one. I expect continued volatility thru the summer as we see how the macro data responds or not to the FED moves.
Take Good Care
Chief Market Strategist
kpolcari@slatestone.com
Watermelon and Tomato Salad
Enjoy this refreshing and delicious Watermelon and Tomato Salad… The colors, and freshness of this chilled salad will make any summer dinner table a pleasure to look at and more so – a delight to eat. If you have never had this salad – you have to make it… and if you have had it, then you can appreciate the simplicity of it.
For this – you need: Fresh Garden tomatoes, mint, watermelon, feta cheese, s&p, Olive oil, and balsamic vinegar…
Cut the tomatoes in half and then slice the halves in slices (you understand what I mean – no?). Next slice the watermelon and cut away from the rind… cut into cubes and place a large bowl. Now add the tomatoes, crumbled feta and chopped fresh mint… Drizzle with Olive oil and a splash of Balsamic – season lightly with s&p… (you can also hit it with a smidge of sugar) … cover and place in the fridge to keep chilled. Spectacular.
Buon Appetito.
