Halyard’s Weekly Wrap – 08/12/22 – The Summer Doldrums are Upon Us!
The doldrums are finally upon us! Last Friday’s strong employment report assured worried investors that two straight quarters of economic contraction wouldn’t result in a “hard landing” and this week’s CPI offered hope that the inflation impulse has passed. With that, investors can relaxed and enjoy the last few weeks of summer.
The 0.00% monthly change in inflation was a welcome reprieve from what we’ve witnessed for nearly two years now. But we’re hesitant to declare victory in the Fed’s war on inflation. There’s still an enormous amount of excess liquidity in the system and the Fed’s quantitative tightening has been slow to drain the excess. The Fed’s reverse repo operation, the de facto add-on to the Treasury Bill market, totaled $2.199 trillion at Thursday’s operation, just a few billion below the peak reached earlier this year. And the T-Bill market itself continues to flash warning signs, with yield levels well below the overnight rate and bid/ask spreads of as much as 11 basis points, in some cases. Raising interest rates will slow some interest sensitive sectors, such as home and automobile sales, but the Fed needs to drain liquidity and they’ve barely scratched the surface.
We were encouraged with the downtick in the University of Michigan 1-year inflation expectation from 5.2% to 5.0% but consider that expectation to still be too high. Consumer sentiment is that inflation will continue to be a problem for the foreseeable future which, historically, is a leading indicator of future inflation.
As a result of the recent better than expected economic data, the Fed Fund futures market is indicating only about a 50% chance of a 75-basis point hike in September, and that Fed Funds will peak to 3.6% in first quarter of next year. Enjoy the final days of summer because we expect that volatility will return with a vengeance this fall.
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