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Wednesday, January 19, 2021
The Fed is playing catch-up, and investors are spooked
Soaring inflation — and by extension interest rates and expectations for Federal Reserve rate hikes — have made their presence felt on Wall Street in a big way.
After spending most of last year downplaying the threat of tighter monetary policy and higher yields, the 10-year note (TNX) spiked to nearly 2% with the inflation-sensitive 2-year yield hitting 1%, both at their highest levels in nearly 2 years.
Jumping yields, which we at the Morning Brief have been warning readers about for months, spooked investors, and sent blue-chip and technology shares reeling.
Tuesday’s sell-off is “all about interest rates,” UBS Global Wealth Management’s head of equities for the Americas David Lefkowitz told Yahoo Finance Live. The rise in the 10-year yield “has big implications for the internals of the market.”
The decisive end to the market’s placidity about the coming rate hike cycle largely reflects a few drivers, but with one overarching theme. Namely, investors are growing fearful that a behind-the-curve Fed will have its hand forced by inflation — and as a result will need to get a lot more aggressive on rate hikes than current conditions suggest, even as growth rates come back down to earth.
“At the end of last year, the market had less than a 2-in-3 chance of a March hike,” noted Marc Chandler at Bannockburn Global Forex.
“Now it has a hike fully discounted and about a 1-in-3 chance of a 50 [basis point] move. At the end of last year, the market had almost three hikes fully discounted for this year. Now the market has about 107 bp completed priced in,” Chandler said — which means Fed funds could quickly end up a full percentage point higher than current levels near zero.
Much of the blame rests with the Fed for “way overstaying their welcome with [quantitative easing] and zero rates and badly misreading inflation that they are now being forced to play catch up with,” said Peter Boockvar, chief investment officer for Bleakley Advisory Group, who’s a relentless critic of Fed monetary policy.
“The other sin, so to speak, was by waiting this long to tighten, they let asset prices further inflate, creating a higher peak at which they inevitably fall when the tightening intensifies,” he added.
Banks are likely embracing the era of higher interest rates with aplomb. Yahoo Finance’s Brian Cheung wrote last week that the banking industry is executing a “pivot away from the profitability of capital markets businesses in favor of greater net interest income in loan portfolios.”
Yet judging by the dramatic slide in the Nasdaq, high-growth and technology stocks have a lot more to worry about, and are bearing the brunt of the market’s jitters amid what CNBC’s Patti Domm noted could result in interest rates keeping a “choke hold” on that segment of the market.
The Wall Street Journal rightly pointed to “cash-burning technology firms, biotechnology companies without any approved drugs, and startups that listed quickly via mergers with blank-check companies” as being the most vulnerable to the current swoon.
“I think it makes perfect sense that some of these names have to cool off a little bit and then when you think about the trajectory of interest rates as we move through this year, you’ve got to look for companies that can generate realistic profitability,” JPMorgan Chase Asset Management Global Market Strategist Jack Manley told Yahoo Finance Live on Tuesday.
“For any tech company that just burns through cash without any sort of viable product, that’s a tough sell this year,” he added. “I understand the volatility, I understand the sell-off, I do think it’s a little bit overplayed but I certainly don’t think it is a long-term problem for the sector.”
Indeed, Northern Trust Wealth Management reminded clients that tighter monetary policy does not mean tight in absolute terms.
CIO Katie Nixon wrote last week that despite rising rate expectations,”it is important to reinforce that monetary policy will remain very accommodative and Treasury yields will remain negative. Based on our forecast for slower growth and more moderate inflation as we head toward mid-year 2022, we also think that this particular rate hike cycle will be short and incomplete versus the Fed’s own dot plot as well as market expectations.”
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