Casting About for a Fed Rate Path

We knew this week would be partially about trying to reach consensus on what the Fed’s rate path this year might look like. On Monday, we were delivered forecasts from the major Wall Street banks and all were pretty different. Some stuck to the three hike scenario but others ventured as far as seven hikes for the year. The typical response was around four hikes, but there was still plenty of uncertainty around the magnitude and timing of the hikes.

For the Fed, they did have a trio of Fed presidents speaking earlier this week and they tried generally to soothe markets. The uncertainty over a definitive rate path, however, will continue to create market uncertainty. Until that gets sorted out, expect volatility to continue to be a market feature.

In this week’s podcast, yours truly and Chad McKeithen take a crack at what we learned from the FOMC meeting and what it might mean for rates this year. We wrap that all up in an investment outlook for 2022. It’s just over 30 minutes so do give it a listen on your way to or from work. The iTunes link can be found here and the Spotify here.


Rate Hikes – Early and Often?

The first week of a month is full of first-tier economic releases, headlined by the jobs report with its traditional Friday release and the ISM reports earlier in the week. This trio of reports usually provides an quick insight into the month just past, but this time these reports are likely to not get too much notice. First, the die has been cast for a March rate hike, regardless of what the early January reports may show. Secondly, even with the jobs report expected to print a rather pedestrian 150 thousand new jobs, the more important number may be the average hourly earnings numbers. Given the Fed’s pivot to inflation-fighting any hint of spiraling wages will be met with aggressive rate hikes. The YOY average hourly earnings print is expected to be 5.7% which will be more than strong enough to keep the Fed in a hiking frame of mind.

Source: Bloomberg

As we mentioned in the opening paragraph, there is still plenty of disagreement over the timing and magnitude of rate hikes. Market expectations, however, have settled on a five-hike scenario for this year. The March meeting has a 25bps rate hike priced in with around 17% for a 50bps hike. That is down from over 25% yesterday before the trio of Fed officials spoke against unnecessarily creating market turmoil. This was taken as an indication that unless economic releases miss to the high-side that 25bps hikes will be the order of the day. It’s just a matter of how many and how fast.

We think they stick to the 25bp hiking regime, and also stick to a quarterly schedule with balance sheet run-off to begin after the June meeting. Could all that happen quicker? Sure, but given the markets recent calm they seem to have investor acquiescence to proceed at the more deliberate pace.

Copper/Gold Ratio Points to Higher 10-Year Treasury Yield

You’ve missed it, we know. And it has been awhile so we thought we would check back in on our old friend, the Copper/Gold Ratio versus the 10-Year Treasury Yield. As the graph below shows, the ratio tracked closely to the 10-year Treasury yield dating back to 2016 through early 2020. The relationship broke down a bit during the pandemic as the flight to safety into Treasuries, and swift economic dislocations, had the pair going their separate ways for a bit.

Source: Bloomberg

While the ratio staggered a bit in 2020 as the pandemic set in, beginning in early 2021 it ramped higher as some economies, namely the US, emerged from lockdowns. But as you can see, the ratio has been more or less rangebound since that early ramp as global economic conditions waxed and waned with the course of the virus. Meanwhile, the 10-year Treasury yield has been on a long, slow climb to try and rejoin its old friend.

With the Fed now firmly in rate-hiking mode for the balance of this year, will the Treasury yield continue its upward climb? The relationship with the copper/gold ratio, if it remains rangebound around its current level,  implies the 10-year will soon move over 2.00%. An upper bound, however, looks to be around 2.50%, again if the ratio remains in place.

Agency Indications — FNMA / FHLMC Callable Rates

Maturity (yrs) 2 Year 3 Year 4 Year 5 Year 10 Year 15 Year
0.25 1.19 1.45 1.65 1.91 2.33 2.79
0.50 1.17 1.42 1.59 1.80 2.19 2.68
1.00 1.17 1.39 1.56 1.75 2.10 2.55
2.00 1.38 1.50 1.68 1.98 NA
3.00 1.63 1.92 NA
4.00 1.87 NA
5.00 1.83 NA
10.00 NA

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Published: 02/02/22 Author: Thomas R. Fitzgerald