October 7, 2022
Paul Volcker was Chairman of the Federal Reserve Board of Governors from 1979 through 1987. He and his board are widely credited with curbing the high rate of inflation in the late 70’s and early 80’s. He accomplished this by raising the overnight fed funds rate to a level of 20% in March of 1980 and again in May of 1981. It wasn’t until February 1982 the Fed relented and allowed the overnight rate to ease.
As different Fed Governors give talks, they point to the lessons of the 70’s about not raising enough or easing too soon. This is a significant change in the earlier “Soft Landing” message. The Chairman has spoken to the risk of recession and the need to go through this period to set up the next decade of growth and prosperity.
So as we look at the last 2½ months of 2022 and into 2023, where does this leave us? A revisit of double digit Fed Funds Rates, or 12 more months of higher rates? We don’t think so, Inflationary forces seem to be stabilizing and cracks are starting to show up in the economy and the markets. This cooling and cracking could allow the Fed finish raising rates with a few increases, pause for a period and then begin to ease.
Looking at the CME Fed Watch Tool, the markets expect the Fed to increase the Overnight rate 75 basis points at the November meeting, another 50 basis points in December, and perhaps another 25 early next year. That should get us to a Fed Funds range of 4.5- 4.75%. That is a long way off 20%, but we think it’s enough to slow economic growth. Inflation, while still running at a high rate, is not surprising to the upside and the most concerning part, shelter, has seen significant pull backs recently. But these shelter numbers will take time to work into the index (about 6 months) and that means higher overnight rates for longer.
Cracks, in the economy like the FedEx report of slower traffic or cracks in the market like the UK Gilt Crisis, will continue to occur as we work through this. Know what you own, limit your risk but remain opportunistic. To quote Paul Romer, Stanford Economist, “A crisis is a terrible thing to waste”. Looking at the tables below, this is a good time for savers to lock in yields not seen in years on high quality US Treasuries, corporates, and municipals. Will it be the highest yields we see? Hard to know, but you will know you are earning an attractive rate on high quality bonds, no matter what happens in the markets.
-Peter Baden, CFA
Chief Investment Officer
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CME Fed Watch Tool
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William (Kip) Weese
SVP, Intermediary Sales
Northeast & South West
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North Central & North West
Indexes used for AAA Municipal Yields
2 Year: BVAL Municipal AAA Yield Curve (Callable) 2 Year (Symbol: CAAA02YR BVLI)
5 Year: BVAL Municipal AAA Yield Curve (Callable) 5 Year (Symbol: CAAA04YR BVLI)
10 Year: BVAL Municipal AAA Yield Curve (Callable) 10 Year (Symbol: CAAA10YR BVLI)
30 Year: BVAL Municipal AAA Yield Curve (Callable) 30 Year (Symbol: CAAA30YR BVLI)
Indexes used for US Treasury Yields
2 Year: US Generic Govt 2 Year Yield (Symbol: USGG2YR)
5 Year: US Generic Govt 5 Year Yield (Symbol: USGG5YR)
10 Year: US Generic Govt 10 Year Yield (Symbol: USGG10YR)
30 Year: US Generic Govt 30 Year Yield (Symbol: USGG30YR)
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