The Return Of The Bond Vigilantes

I used to think that if there was reincarnation I wanted to come back as the President or the Pope or as a 400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everyone – James Carville, Advisor to President Clinton, 1994

Friday morning’s August CPI Report is setting up as one of the most important in a long time. The Wall Street Journal’s Nick Timiraos – The Fed Whisperer – started his column in Thursday’s WSJ with this: “A single reading of consumer prices Friday morning could determine whether the Federal Reserve raises interest rates next week” (“CPI Report Weighs Heavily on Fed Decision” [SUBSCRIPTION REQUIRED]). Economists expect Core CPI to come in at +0.22% month over month.

Stepping back, however, even if the Fed chooses not to raise rates next Wednesday, the bond market may force their hand sooner rather than later. Interest rates on US government debt are now at 20-year highs – levels not seen since the lead up to the financial crisis. Should Fed Chair Kevin Warsh choose to hold rates steady despite the bond markets concern over inflationary pressures, a further selloff in bonds would take the bat out of his hands.

Treasury Secretary Scott Bessent said Wednesday that this is his house, implying that he controls interest rates. The market action since he said that suggests that, in reality, Bessent is at the mercy of the bond market which has just about had enough of loose and irresponsible fiscal and monetary policy. In other words, the bond vigilantes are back.

If I’m correct about this, long term interest rates are going higher whether the Fed raises rates next Wednesday or not. At a certain point, that will likely become an increasingly strong headwind for equities.