Halyard’s Weekly Wrap – 9/30/22 – London Calling to the Faraway Towns…

Chaos erupted overnight Sunday in the U.K. as investors reacted harshly to announced tax cuts and sent Gilt interest rates soaring.  The U.K. is besieged with a similar inflation problem as the rest of the world and the proposed tax would likely worsen rising prices.  By Tuesday morning the 10-year note was a full 100 basis points higher in yield before the Bank of England announced that they would intervene and buy Gilts.  After all was said and done, the U.K. 10-year ended the week 20 basis points lower at 3.81%, but not before “dinging” the U.K. government’s willingness to fight inflation at whatever cost.

In the U.S., the Fed’s credibility as an intrepid inflation-fighter continues to be growing, be it deserved or not.  For the week, the two-year note and 30-year bond both closed nearly unchanged.  The same cannot be said for equities.  The S&P 500 touched a new nearby low this week and rests just above that level with investors shaken by several weak earnings announcements.  The most recent disappointment was Carmax, as the company cited a stretched consumer and higher borrowing costs as weighing on the demand for cars, and hence, its profitability.  That’s not an encouraging harbinger of coming earnings as we close out the third quarter.

Despite the Fed efforts to drain liquidity from the monetary system, the financial sector apparently ended the quarter flush with cash.  The Fed’s reverse repo operation touched a record $2.426 trillion, the third record this week.  The facility pays depositors 3.05% which is quite generous compared to the 2.65% offered by one-month Treasury Bills.  That works out to about $73 billion a year, or more than $200 million a day that the Federal Government is paying investors.  Unless the Fed changes the parameters of the program, the interest rate paid will rise, basis-point for basis-point as the Fed raises the Fed Funds rate.  Ironically, the rising Fed Funds rate exacerbates the problem.  Banks, for the most part, aren’t raising deposit rates.  Savvy depositors are pulling their savings and putting it into government-only money market funds, thereby creating more demand for the attractive yield on the reverse repo.

Next week brings the employment report for September and estimates are for a deceleration of job growth to 250,000 and an unchanged unemployment rate of 3.7%.  We’re a little skeptical of that number and wouldn’t be shocked if it came in a little light.  There have been more than a few notices of hiring freezes and job cuts lately.  As that begins to take hold, it will be impossible to continue to grow jobs at an above trend pace.