The Federal Reserve implemented the biggest interest rate hike since 1994. Yes, that’s right. The largest hike in 24 years. With inflation not showing signs of peaking, the Fed must keep hiking rates in order to tame it.
Many people on Twitter have been saying that the Fed has raised rates a few times now but oil prices still remain high… which means inflation will still come in high. They would have known if they read my work. I have been saying there is monetary and non-monetary inflation. For the non-monetary side of things, demand has to be killed. What can do this other than a lockdown? a severe recession. But how severe is the big question. Paul Volcker took rates to 20% and caused a severe recession which put inflation back in the bottle. Let’s not beat around the bush, the Fed needs to raise rates MUCH higher if it wants to tame inflation, and it will hurt a lot of people who are leveraged with debt.
I shudder thinking what will happen to Canadians with large mortgages. For each 1% rise in interest rates, it means an extra $100 for every $100,000 amount of a mortgage in variable. So for example if someone has a variable mortgage of $500,000 and rates rise by 2%…that’s an extra $1000 on their bills and you need to factor in rising oil prices and food prices etc. Of course if the Fed actually manages to tame inflation then oil and food prices drop and the middle class won’t be pinched on both sides.
The Federal Reserve raised rates by 0.75% yesterday taking fed funds to a range of 1.5%-1.75%. And more are coming.
Fed members revised upwards their rate expectations for the end of this year.
According to the dot plot, Fed members expect rates to end the year at 3.4%, which is up from 1.5% from what they thought in March. This is above the normal range of 2-3% that most people were expecting. Interest rates are going higher, and if inflation data does not show a couple of months of decline, then the Fed will need to raise even more.
I want to share what Bill Ackman said:
He is looking at 5-6%, and saying the Fed needs to deliver to maintain confidence. I agree with him but the big question is whether 5-6% will be enough to break inflation…or put another way, kill demand.
Fed officials also significantly cut their outlook for 2022 economic growth. The FOMC is now anticipating just a 1.7% GDP gain, down from 2.8% from March. This could come into question especially since it appears as if a recession is on the way.
Powell also came under question. I listened to the press conference and journalists asked him why 75 when you said it would just be 50 in the last meeting. What caused things to change. Inflation wasn’t peaking. That’s why. In a way, the Fed is now catching up to inflation, and many contrarians believe the Fed will never catch up unless they do Volcker-like hikes.
“Clearly, today’s 75 basis point increase is an unusually large one, and I do not expect moves of this size to be common,” Powell said. He added, though, that he expects the July meeting to see an increase of 50 or 75 basis points. He said decisions will be made “meeting by meeting” and the Fed will “continue to communicate our intentions as clearly as we can.”
“We want to see progress. Inflation can’t go down until it flattens out,” Powell said. “If we don’t see progress … that could cause us to react. Soon enough, we will be seeing some progress.”
What was the market reaction?
Above is the daily chart of the S&P 500. Yesterday, we had a green day providing some hope of a bottom. Unfortunately, not yet. The technicals are still indicating more downside, unless we can bid up and close above yesterday’s lows and begin to range. But we could be close. I am watching the area between 3300-3500 for my downside target.
The real action is occurring in the debt markets. Just before the Fed, the European Central Bank (ECB) held an emergency meeting to address rising yields.
Italian yields are spiking and so are Greek to name a few. Making borrowing costs rise quickly. The ECB said it will introduce a new tool to prevent bond yields from rising. What would it be? The only thing they can do is buy bonds… like they have been doing. This now puts their plans of beginning to raise interest rates into question.
The Swiss this morning raised interest rates. First time since 2007 taking rates from -0.75% to -0.25%. The Swiss Franc is strengthening, and I just wonder if they were anticipating the ECB to do the same. A strong Franc is not what they want and in the past, they have taken major steps to weaken the Franc.
Readers know I have been focusing on the Bank of Japan. Read my recent article on the debt markets. Truly frightens me. Even more today when you see the 10 year JGB chart:
The Bank of Japan is printing unlimited Yen to buy up bonds to keep 10 year JGBs below 0.25%. They are now yielding 0.45% after multiple days of surge. Traders are betting the Bank of Japan will have to capitulate and begin raising interest rates. This would have huge ramifications for the world as Japanese investors are the number 1 holder of US debt. If yields begin to rise in Japan, Japanese money may instead buy JGBs instead of chasing yield overseas. This would mean rates in the US and other parts of the world could spike in an uncontrollable fashion.
Major action occurring in the debt markets, and the Bank of Japan are actually ending this week of 4 central bank rate decisions. Expect some volatility. The trade for now seems to be short stocks, short cryptos, long US Dollar and acquire commodities (gold and silver to bet against the debt).