Monday Macros......
Quiet Start to Week...Volatility Will Continue...Inflation Still Biggest Fear
10 year treasuries got to 1.70 Thursday and 5 years to 1.25 Friday, levels we expected... Momentum traders got over their skis with CTA's getting very short the sector... That lead to a short covering rally Friday to 1.63, when Powell said " *IT'S TIME TO TAPER, NOT TIME TO RAISE RATES"... That was the catalyst of the move Friday... But inflation still remains the biggest fear in the near term until the middle of 2022...Powell will announce tapering next week to start at the middle of November... It will end by the middle of 2022... Many think inflation will force the Fed to start raising rates in 2022... The reality is the market has already raised rates for the Fed seeing 5 year treasuries double in yield from August 4 from .60 to 1.20... Over 2 full rate raises...
Powell and Yellen... The monetary policy of the country still leads where the markets are going... On the Sunday shows yesterday Yellen said
" Yellen Expects High Inflation Through Mid-2022 Before Easing "
we agree with the high inflation aspect, but with supply chains continuing in turmoil, and the massive shortage of workers, we think it will continue and be worse than expected...oil hit new highs today, but the bigger long term outlook is that China is no longer the deflationary exporter as in the past... Power shortages and mandated black outs are affecting exports... We talked with a friend who imports large amount of goods from China and Vietnam... He said that the power shortage is real . El-Erian wrote this morning that the longer that elevated inflation exists, the greater the risk of a historic error. A delayed and partial response initially, followed by big catch up tightening would constitute the BIGGEST MONETARY POLICY MISTAKE IN 40 YEARS.
Powell seems to be less worried about employment and more concerned about inflation... If the inflation gets out of control there could be a disaster of how to pay for all the Federal debt that has been issued... Even with lower rates, there is a report out showing that the debt coverage is now the largest expense of the US Government... So if rates go significantly further, there could be major problems in future budgets...but that is for another day.
We expect 10 year rates to range from 1.60-1.70 this week..1.76 will be hit eventually, but 1.70 for 10 years is a strong support..5 years have a support of 1.31... But we saw a JP Morgan report talking about the long bond going to 2.50... We disagree for now... And the 5/30 curve, which bounced off .82 last week, and is .90 right now, could break down to .56 on another flattening...
Two last things... This was the big family weekend in NY...so at the dinner before, we talked with a guests who is a big NY buyer of apartment buildings... He bought a 250 unit apartment... He said that when people move out he upgrades... Standard stuff...but he said the cost of a kitchen has gone up from 2800 a year ago to 12,500 currently... Secondly, Joe Carson talked about real estate inflation in Barron's.. Home prices are up a record 19.5% in the past year, according to Case Shiller. However they were removed from the official price indexes owing to political and statistical issues. If they were still included inflation would be running at a 10% clip....
Houston, we have an inflation problem and it is not going away any time soon... So expect higher rates, the only question is how high before we see major problems in government funding or equities..
