Interest rates are rising. Oil prices are rising. Either one alone may be difficult to swallow.
But when you mix them together, you create a messy mixture that’s unpleasant to consumers, unpleasant to most investors, and dangerous to the economy.
The interest rates I am referring to are set by traders in the vast bond market. There, U.S. Treasury yields have risen to their highest levels in decades, increasing costs for consumers and businesses, making stock markets volatile and forcing the Federal Reserve to try to rein in inflation without causing a recession. The board’s efforts are becoming more complex.
At the same time, oil prices, which had fallen from the highs reached in 2022 during the early days of the Russia-Ukraine war, resumed their rise. Oil prices have been hovering above $95 per barrel, with that expensive crude pushing up average prices. gasoline In the U.S., it’s more than $3.80 a gallon, uncomfortably close to the $4-a-gallon level that has sparked consumer alarm and political upheaval over the past few decades.
Add in the strong dollar, which has depressed overseas earnings for U.S. companies, and “you create a triple whammy for the economy that is very difficult to deal with,” he said. liz ann sondersCharles Schwab’s chief investment strategist said in an interview.
Undoubtedly, there has been a lot of good news about the US economy recently, and a “soft landing” without a major economic slowdown could occur, with inflation falling to the Fed’s 2% target.
But unless that happens, I’ll continue to hedge my bets. Mr. Saunders said the economy was experiencing a “rolling recession” sector by sector, which had already hit housing and manufacturing sectors and was likely to widen further. With a full-blown recession still a possibility and government shutdowns and endless battles over fiscal policy becoming the norm, it’s wise to prepare for trouble.
Fed pause
of federal reserve Only short-term interest rates are directly controlled, and the divergence between these interest rates and the long-term interest rates set by the bond market has become increasingly important in recent years.
Since November 2022, bond markets have been signaling that a recession is likely, with long-term interest rates falling, a pattern known as an “inverted yield curve.” lower Lower than the interest rate set by the Federal Reserve or the interest rate most influenced by the Fed. Inflation usually recedes when the economy is in a downturn, but so far there has been no recession and inflation remains too high for the Fed’s liking.
The Fed left interest rates unchanged at its last meeting in September, but also said it would keep them above 5% through 2024. Recognizing this reality, long-term interest rates are rising.
The spike in yields is causing turmoil in stock and bond markets, with the new lure of rising bond yields and the threat to corporate profits from rising borrowing costs.
For long-term investors who can afford to weather this period, these issues may not be as important to their future portfolios. Take a moment and make sure you have enough money to pay your bills. The market will eventually calm down, but it may be turbulent.
To understand what’s going on, first, the Fed has raised its key policy rate, the federal funds rate, from near zero at the beginning of last year to a range of 5.25% to 5.5% in July, in an effort to curb rampant inflation. I want you to remember that I raised it to . Thereafter, interest rates were left unchanged at the most recent meeting in September. The federal funds rate is as short-term as possible. This is the interest rate that banks are allowed to charge each other for overnight loans. The Fed has also raised or influenced many other short-term interest rates.
good point
If you’re lucky enough to be a saver, this is a boon.Money market funds pay you, mostly thanks to the Fed. 5% or more Short-term Treasury bills and many high-yield savings accounts offer generous yields as well, just by keeping your money there for a while.
If you’re enjoying these high yields, take advantage of what was revealed at the September Fed meeting, and you’ll be able to enjoy significant yields over a significant period of time without the risk of investing in stocks or long-term bonds. will be obtained.
Similarly, if you’re a world traveler with a lot of money in your pocket, you’ll likely be able to live wealthy for quite some time while traveling abroad.
nevertheless
A strong dollar has depressed returns on the S&P 500 index, contributing to weak stock markets and a difficult economic environment for countries that must grapple with rising import costs and worsening export conditions. Oil prices rose after Saudi Arabia announced supply cuts, enriching energy producers and burdening most other businesses and consumers. In many parts of the world, oil is paid for in dollars, making the combination of rising prices and a strong dollar a double whammy that’s not only painful, but also trivial.
Perhaps the biggest economic issue in the trio of energy prices, the dollar, and rising interest rates is the impact of rising interest rates.
A wide range of consumer loans, from credit cards to car loans to mortgages, have become prohibitively expensive, and even as the economy continues to grow, these costs are starting to weigh on spending.This is probably due to interest rates and gas prices. Decline in consumer confidence This was reported in August in a long-term study by the Conference Board, a business think tank.
Rising interest rates are causing severe pain for traders who have been betting aggressively on long-term bonds. While money market funds and Treasury bills generate impressive yields, long-term bonds generate big losses when traders sell them. This is due to an important feature of bond calculations. In other words, interest rates and prices move in opposite directions: when interest rates rise, prices fall. Additionally, bonds with longer durations will fall in price further as yields rise.
terrifying return
Witness the amazing and frightening performance of. iShares 20 + Government Bond Exchange Traded Fundclosely tracks an index that focuses on “U.S. Treasury bonds with a remaining maturity of more than 20 years.” By September 28, the fund’s value had fallen about 45% since its peak in late July 2020.
The fund fulfilled its original purpose of tracking the performance of long-term government bonds. Moody’s Investors Service says the government shutdown is a “credit negative” event for U.S. sovereign debt, but these investments remain strong.
But the spike in bond yields reflects concerns that the Fed’s inflation efforts may last longer than expected and require further rate hikes, making trading in U.S. Treasuries risky. Interest rates may already be nearing a cyclical peak, so it would be wise to buy long-term Treasuries now. A safer option is to keep the bond term short. If yields fall, they won’t benefit as much, but if yields rise, long-term bondholders will no longer be able to withstand severe paper losses.
The spike in yields also misled stock investors who had hoped that inflation was under control and that the Fed’s tightening was almost complete. Stocks that had risen this year suffered losses in recent months due to turmoil in the bond market.
These are volatile times, and economies and markets may be subject to unprecedented disruption. There are many things the Fed cannot control.