The Fed’s Great Experiment Now In Progress

To take one example, if interest rates continue to rise beyond expectations there could be severe fallout in the housing sector, which in turn has the potential to cast dark shadows over a nascent but crucial recovery in consumer sentiment.

Exactly where the tipping point between productive vs. destructive higher rates is remains unclear. For now, there’s still plenty of upside left for, say, the 10-year before the yield rise becomes worrisome. Recall that in 2019, a 10-year rate as high as the mid-2% range was considered “normal” as well as helpful for economic stimulus.

But a lot has changed and the crowd will be watching to see if the Fed is ceding control of rate policy to the markets. There was a hint of that yesterday when Powell attempted to calm the bond market by reaffirming that rates will remain low for longer than usual. If that was an effort to keep yields steady, it was a failure.

“The message, which [Powell] sent very clearly, was lower for longer,” says Subadra Rajappa, head of rates strategy at Société Générale. “It was the market reaction I was quite surprised by.”

Are there more surprises ahead? Unclear, but as the Fed embarks on what’s shaping up to be a grand experiment there’s a non-zero possibility that its policy is misguided and the central bank loses hard-earned credibility in markets. We’re a long way from regime shift on this front, assuming it arrives – unless we’re closer than we think.  

By some accounts, the writing’s on the wall. “The market is having a crisis of confidence with Powell and the Fed,” opines John Petrides, portfolio manager at Tocqueville Asset Management.

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Disclosures: None.

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