The short maturity fixed income market is offering the most attractive yield opportunity since before the financial panic of 2008, thanks to the Federal Reserve’s aggressive reversal of Fed Funds. We argue that the Fed has been forced into such an aggressive move by their years of ineptitude but, nevertheless, the move presents an attractive opportunity for investors to actually earn an attractive return on their cash. Prior to this year, the idea of 60/40 investing (a portfolio strategy of holding 60% of assets in equities and 40% in fixed income) had been supplanted by “forget bonds and buy the dip in stocks when their price corrects.” That strategy worked well prior to this year, but has proved catastrophic for portfolios this year, with the selloff in the darlings of the retail market, namely FANG stocks. All are down double-digits in 2023, with META, the parent of Facebook, down 69% from its peak. The best performing of the group is Apple with a year-to-date loss of only 27%. Topping the FANG losses, Bitcoin, the favored trading vehicle of the more “sophisticated” retail traders has lost 75% of its value since last December. With the cryptocurrencies printing new lows as we write, we wonder what’s stopping Bitcoin from plumbing the depths below 10,000. It’s certainly not valuation, because it really doesn’t have any intrinsic value.

The August CPI report was a shocker in that the expectation was for inflation to finally drift lower. In fact, the report confirmed that inflation continues to run at an elevated pace and the Fed’s raising of short-term interest rates is doing little to quell the uptick. To put it into perspective, the year-over-year rate of inflation last August was an already an elevated 5.25%. At the time, the Federal Reserve wrongly assured investors that inflation was transitory, and they didn’t need to adjust monetary policy because in short order the uptick would pass. Recall, at the time Chairman Powell was up for renomination and, we suspect, reluctant to do anything to battle rising prices, fearing that to do so would torpedo his chances for renomination. From our perspective, he had done a lousy job and should not have been renominated, but that did not come to pass.

As expected, the Consumer Price Index (CPI) in June registered the highest inflation in 40 years. Year-over-year the rate of price appreciation of the CPI came in at 9.1%. In reviewing the details of the report, the source of the inflation is broad-based. Even more troubling, recent surveys indicate that consumer expectations for future inflation are climbing.

Earlier this month the jobless report showed that the economy added 372,000 new jobs in June, well ahead of the 265,000 that was expected. Given the anecdotal weakness we’ve been witnessing, our expectation was that the jobs figure would disappoint. Contradicting the headline number, the household survey showed a decline in the labor force of 353,000 jobs. As we’ve explained previously, the two measures are usually directionally in agreement, but not always.

Last week investors were delighted that the Fed only raised interest rates 50 basis points and Fed Chairman Powell drove home the point that a 75 basis point hike was not forthcoming. However, by the next morning, the relief had been replaced by anxiety that stagflation is on its way, stock prices are too high and the yield curve too flat. Since the announcement, the S&P 500 has tumbled sharply, joining bonds in the year-to-date bear market. The current long bond (2 ¼ % 2/15/2052) is trading at a price of about 82, down from its issue price of 100 in February. At a dollar price of 82, the yield-to-maturity calculates to 3.20%, offering a real interest rate (Treasury rate – inflation rate) of about -5.00%. Moreover, with the latest selloff, the 2-year/30-year yield curve has steepened approximately 45 basis points since April 1st. Typically, the yield curve steepens when market participants believe the Fed is losing the inflation battle.

The February 24 invasion of Ukraine by Russia has resulted in heightened volatility as bid/ask spreads have widened and liquidity has dried up. President Biden’s decision to punish Russia’s aggression by halting purchases of Russian fossil fuel has caused the price of a barrel of crude oil sky-rocket. West Texas Intermediate briefly touched $130 a barrel on March 7th before settling in around $106 a barrel at the time of this writing. The rise in oil is having a direct impact, as one would expect, on gas prices. While the general population is aware of the dislocations in the capital markets, the rise in the price of gasoline is a direct hit to their wallet and one that has the average citizen worried. Economic forecasters are attempting to back into the price of a gallon of gasoline should the Russian oil ban become a sustained policy, and their forecasts are frightening. Estimates are as high as $150 to $200 per barrel of oil with gasoline topping out at $8 to $10 per gallon. Should the price of a gallon of gas rise to that level, we’re fairly confident that the U.S. economy will be in a recession. As it is, the Atlanta Federal Reserve’s GDP calculator is forecasting 0.041% economic growth in Q1 2022. We wonder how the investing public is going to react to 0% economic growth after enjoying 6 quarters of “eye-popping” economic growth fueled by emergency COVID stimulus. The first estimate of that growth comes at the end of April so we have plenty to worry about between now and then.