On Wall Street, there is an eternal debate about the relative acumen of those struggling in the stock market versus those in the bond market. What I concluded from these colloquia is that both sides can learn something from the other’s point of view.
The past week provides some examples of the different views of these respective sectors of the financial markets. Equities continued their decline in 2022 as the Federal Reserve was widely seen as backing away from its ultra-loose monetary policy, after belatedly acknowledging long-looming inflation for everyone.
Meanwhile, the sharp rise in bond yields has been met with resistance around their recent highs. And while fixed-income markets agree on the virtual certainty of future Fed interest rate hikes, they expect rates to cap at relatively modest levels. Additionally, the market sees the Fed’s rate target peaking well below inflation, even below the central bank’s stretch long-term target of 2%, let alone the 7% hike. consumer prices over the past 12 months.
An array of Fed speakers essentially confirmed widespread market expectations of three quarter-percentage-point increases in the federal funds target from the current range of 0% to 0.25% this year. By the end of the week, the fed funds futures market was showing about a 60% chance of a fourth hike by December, according to CME website FedWatch, while JPMorgan Chase CEO Jamie Dimon estimated on Friday that there could be six or seven hikes this year.
The futures and forwards call for a similar number of increases to Dimon’s, but only by the end of 2023. And then they call for the fed funds rate to cap in the 1.6% range until in 2024, according to NatWest’s economic and strategic report. It would be well below 2.4% peak in 2019 during the last Fed hike cycle, and the Fed’s own expectations of a further hike to 2.1% in 2024 and a longer-term neutral rate of 2.5% released at its December policy meeting.
As for longer-term interest rates, the futures market sees only a slight increase in the yield on benchmark 10-year bonds, to 1.94% in one year and 2.06% in two. years, according to the NatWest rating. Those projections were up from 1.77% on Friday evening, virtually unchanged on the week, but lower than the bank’s own forecast of 2.2% in the fourth quarter of 2022 and 2.45% a year later.
Corporate treasurers, sensitive indicators of rate movements, have rushed to the capital markets on terms they consider very attractive. In the first nine business days of 2022, higher-quality companies raised about $100 billion, while high-yield borrowers, a much smaller cohort, raised just over $13 billion.
Still, those expectations of relatively small rate hikes were enough to drive another week of declines for equities, with the
nearly 5% since the start of the year. One inference could be that both markets see limited room for higher interest rates, perhaps due to the impact they would have on economic growth, or due to the fragility of the heavily indebted financial system. . There may be relatively little difference between stock and bond crowds, after all.
Write to Randall W. Forsyth at [email protected]