How High Will Rates Go?

Stocks opened lower but quickly turned around. Currently, the Dow is up 30 points, and the S&P 500 is down .3%. Over the course of the last month the VIX Index has fallen to 24 from 33. That is to say, fear among short-term traders has diminished. Over that period the dollar has weakened and stocks & bonds have risen. I suppose that makes sense as we got some evidence of moderating inflation. But this morning St. Louis Federal Reserve Bank President James Bullard said inflation isn’t coming down fast enough, and he believes the Fed-funds interest rate will need to rise to between 5% and 7%. I’ll point out that 5% is already baked into both stock and bond markets, but 7% definitely is not. So here we go again, guessing about how high the Fed needs push rates, and extrapolating how much damage will be done to the economy along the way.

During the week ended yesterday, the 10-year Treasury note yield fell to 3.69% from 4.15%. At the same time, the 2-year Treasury yield fell to 4.36% from 4.58%. So while bond yields are down across the range of maturities, long-term yields are falling faster. Just a cursory glance at the above numbers should make any bond investor choose short-term notes with the higher yield. And that’s a problem because long-term yields are supposed to be higher. So we find ourselves with what they call an “inverted yield curve.” This is the result of Fed interest rate hikes impacting the short end of the curve, while the long end moves more with inflation and economic growth expectations. At the moment, long yields may be falling rapidly because bond investors are increasingly worried about a recession next year.

New home construction activity continued to fall in October. Newly started units fell 4% from the prior month and are down about 20% from the April peak. Single-family home construction activity is the lowest since May 2020. The volume of construction permits is also down about 20% from last December. We all know that higher mortgage rates and insanely high home prices are finally tempering demand. But CNBC economics reporter Steve Liesman reminds us that we are not witnessing a crash. New home starts and building permits are still higher than pre-pandemic levels. No, what we’re seeing is a necessary reset to more normal activity following a period of ridiculously high demand.

Goldman Sachs reports layoffs from big technology companies tally about 34,000 this month. That includes recent announcements from Twitter, Amazon, Meta, Salesforce and Lyft. Goldman’s chief economist Jan Hatzius says that although they make great headlines, “tech layoffs are not a sign of an impending recession.” Jan points out that tech accounts for a very small proportion of US employment, and anyway there are still plenty of tech companies listing open positions. Also, layoffs in other industries “still look limited.”