The Fed delivered, as expected, a 0.25 percentage point rate hike, the first kick in short term interest rates since December 2018. Moreover, the market expects similar actions for each of the Fed’s remaining six meetings scheduled in 2022. Thus, the funds’ rate should climb near 2% by the end of this year. In a similar move, the Bank of England raised its interest rate to 0.75%. But is this enough to tackle inflation which grows well into two digits territory?
History shows that the last time inflation ravaged the American economy in the late 1970s, the Fed, wisely led by its chairman Paul Volker, acted promptly and effectively. In fact, Volker’s hand was heavier compared to the current administration. He raised the short term interest rates to 20%. Such an abrupt measure was the only solution to curb double-digit inflation. Making money supply scarce is the single viable avenue to stop the boom in consumer prices.
Nevertheless, Powell & Co’s problem is bigger and grimmer than 40 years ago. In fact, he needs to curb inflation without hampering quantitative easing too much. On paper, things may look good. Interestingly, Wall Street cheers the hike in interest rates, the leading indices delivering positive returns.
The Fed ignores that massive injections of funds in the financial markets were the keystone that amplified inflation over the past year. Liquidity injected directly or indirectly into the stock markets ended up in the pockets of certain categories of individuals, thereby fueling consumer prices. As a result, increasing interest rates to 2% by year’s end may not suffice. Even a more vigorous hike above 5% can be ineffective if the tapering does not quickly come into force.
Is the Fed ready to unleash hell in the stock market? Most likely, they do not because they are afraid of what people call stagflation. Ideally, inflation should retreat, markets should go north, and the economy should deliver growth. Too much, too fast and too late…
One thing we're hearing again and again, as we talk to the different players in our supply chain, is that there's a lack of data sharing. A lot of things you might assume are shared actually aren't. So that cargo owner for example might not actually know what containers their goods are in. The trucker might not know if a container that they're showing up to a warehouse to pick up is actually going to be there. There can even be issues when you look at those big stacks of containers about making sure that the container you want to pick up first is actually on top and not in the middle. These are the kinds of things that we can improve through voluntary data-sharing agreements. Pete Buttigieg, US Transportation Secretary
Global equity markets showed significant gains on Friday, boosted by technology stocks. Russia managed to pay the coupon on its debt, avoiding a default on its sovereign liabilities. Investors were eased after Russia’s payment and redirected funds towards the stock market. They also pulled back from gold, signalling the market's total trust in Fed’s interest rate hike.
10 years Treasuries
The yields on 10 years Treasury notes climbed above 2.2% earlier this week before retreating below 2.15%. This level should be enough for most investors to keep the engine running. Nevertheless, the 0.25% hike in short term rates should translate into a bigger kick on the distant end of the interest rates curve. Therefore, the ten years Treasuries should be above 2.25% to deliver a steepening shift of the curve.
Russian debt default, energy crisis, rampant inflation… And yet VIX, the leading volatility index, is moving consistently into negative territory. Seemingly, the market delivers a strong signal that all goes smoothly and there are no reasons to worry.
However, while the volatility is still above the level recorded before the pandemic outbreak, the current level is far from soundly encompassing the fully-fledged picture of the present situation.
The credit crunch crisis gave us a valuable lesson. Volatility is like any other asset, the result of supply and demand. The current level shows that there is no demand for volatility, or in layman terms, there is less demand for derivatives. Are investment banks reluctant to hedge?
Probably they are because their position is to bet on inflation.
While the stock market entered in Q4 2021 a bearish pattern, oil and gas companies bolster amid a strong oil rally. Chevron’s share has followed an overall positive trend since the beginning of the Ukraine conflict.
Chevron aims to revive its joint venture in Venezuela amid the foreseeable relaxation of the US sanctions. Sanctions against Russian oil pushed the major oil and gas companies to explore a partnership with Venezuelan President Maduro.
Only time can tell whether this strategy will be fruitful. Russian companies are already drilling in Venezuela.
After a strong rally, the Dow Jones Index ended the week into positive territory, above 34,700. After the initial turmoil triggered by the war between Ukraine and Russia, the market calmed down.
Bitcoin ended the week above USD 41,000, moving back into a coupling mode with the other markets. The leading cryptocurrency showed resilience amid a critical situation.
The Gold ounce ended the week on a negative note, below USD 1,950, as investors moved away from safe-harbour assets. However, the foreseeable commodities crisis and the inflationary context are good arguments for a rally in gold prices.