Interest and mortgage rate percent change from St. Louis Fed, chart by Mish

The Fed is hiking at an unprecedented rate. Mortgage rates have been following the 10-year rate up. 

The shorter the duration, the faster the move.

2-Year and 3-Month Interest Rate Percent Change

Interest rate percent change from St. Louis Fed, chart by Mish

Percent Change From Year Ago Synopsis

• 3-Month T-Bill: 7,725%
• 2-Year Treasury: 1,501%
• 5-Year Treasury: 328%
• 10-Year Treasury: 156%
• 30-Year Mortgage Rate: 111%

Implications

A Tweet thread on the implications by Andreas Steno Larsen inspired this post.

Let’s start with the broader economy. This is the largest move in the yield curve since the mid-1980s and certainly the biggest move in the era of financialized economies

The move suggests that ISM will print at index 30 in Q4 2023. A material recession is likely upcoming

2/n pic.twitter.com/Ddg5r51O3c

— AndreasStenoLarsen (@AndreasSteno) October 21, 2022

Equities and Housing 

What does it mean for housing?

The move in the 30yr mortgage yield is simply unprecedented. The current average level around 7% implies a 20% drawdown in residential prices over the next 9-12 months on historical correlations

The correlation is VERY strong

4/n pic.twitter.com/o70fXCqm8i

— AndreasStenoLarsen (@AndreasSteno) October 21, 2022

Unemployment 

Unless central bankers admit to this outlook soon, it is safe to say that a pretty deep recession is unavoidable.

I don’t think they will admit to it (before it is too late), why a soft landing is very unlikely. More in my FREE newsletter here.

6/nhttps://t.co/LemZokxfh2

— AndreasStenoLarsen (@AndreasSteno) October 21, 2022

Discussion Points

• I am in general agreement with Larsen's ideas regarding ISM, equities, housing. 
• However, I think his stock market estimate is too optimistic and housing may take longer than a year to fall 20%. Too many people will not sell. 
• Unless prices do crash then housing will remain weak for years.  (A 20% not enough to stimulate housing at 7+ percent mortgages).
• I see real (inflation-adjusted) interest rates vs the CPI as still deeply negative. Factoring in housing prices as opposed to OER (Owner's Equivalent Rent), would send real rates positive as soon as housing prices decline substantially.  
• My only substantial disagreement regards unemployment. Millions of boomer retirees coupled with millions of openings will stave off a massive rise in unemployment.

Expect a Long Period of Weak Growth, Whether or Not It's Labeled Recession

Add it all up and you have the makings of a long, but shallow (from an unemployment rate perspective), period of slow growth. 

This will be payback for long periods of massive and unfounded QE. 

For discussion, please see Expect a Long Period of Weak Growth, Whether or Not It's Labeled Recession

It's payback time for three consecutive bubbles. Expect a long period of weak growth, no matter how it's labeled.

This time there will not be bailouts. Nor will the Fed quickly reverse on interest rate policy out of fear of stimulating more inflation and unwanted demand.

Unless asset housing prices crash, the housing sector figures to be weak for a long time, with the Fed unable or unwilling to offer much assistance.

Housing tends to start and end recessions. But where is housing going if prices remain high along with 5+ percent mortgage rates? [Edit: Now 7+ percent] 

What About Jobs?

• The Covid-recession was very short, two months, not even a full quarter of declining growth. The pandemic was also accompanied by the greatest job losses in history.
• I expect the opposite of the Covid-recession: A long period of weak growth accompanied by relatively strong unemployment numbers. 

Employment Levels in Retirement Age Groups 

Chart by Mish from BLS statistics

Age 60+ Employment

• In 2022: 22.09 Million
• In 2008: 13.46 Million
• In 1999: 8.22 Million
• In 1981: 7.21 Million

As of January 1, 2022, there are over 22 million people age 60 or over who are still working. We have never seen anything like this before, so don't expect prior recessions to be a model for this one.

Millions of these people will retire. 

Employment may drop substantially when these boomers and Gen X employees retire, but falling employment and rising unemployment are not the same thing.

Rise in Unemployment Rate 

Chart by Mish from BLS statistics

Rise in Unemployment Rate Key Points

• In 12 previous recessions, the lowest rise in unemployment was in 1990 and 2001, 1.1 percent each.
• The highest jump was 8.2 percent in 2020 and that was undoubtedly understated.

Given the pending levels of retirement and the incomplete jobs recovery from the 2020 recession, I expect this to be a very weak recession in terms of rising unemployment. 

Biggest QE Experiment in History Backfires

In June of 2021, I commented Fed Will Foolishly Continue QE Purchases in Search of Higher Inflation

Indeed, the Fed kept QE going all the way until March of 2022. Inflation exploded.

My June 26, 2021 Comments

The Fed either has no idea inflation is roaring if one accurately includes home prices, or it simply does not care. My take is the Fed is basically clueless.

Looking ahead, the fourth quarter and 2022 GDP and will be much weaker than most expect.

The irony in the Fed's actions is they are indeed increasing inflation, but only in the most unproductive, yet uncounted ways. There's plenty of inflation now, just not as they measure it.

And when bubbles burst, expect another painful round of asset deflation, likely accompanied by the price deflation they fear.

No White Hats

There will be no Fed posse to the rescue this time. For four decades the Fed had disinflationary winds of globalization at it back. It could easily step on the gas without starting an inflation spiral.

That changed in 2020. The Fed now has inflationary winds of de-globalization and wars blowing in its face. Labor pressures also remain inflationary.

The Fed knows it made a mistake and will be very reluctant to repeat it.

Biggest Rate Hike Experiment in History

The first chart shows this is the biggest rate hike experiment by the Fed in history.

It follows the biggest QE experiment in history.

Fed policy operates with a lag. Yet, the Fed has a cushion (and an excuse) to keep hiking if my unemployment rate thesis is correct.

Even if, unemployment is modest, it will be unbalanced. 

Given housing rates to be weak for a long time (and consumer durables with it), don't expect earnings to come roaring back. 

De-globalization and decarbonization also come into play. They are inflationary headwinds and profit headwinds too. 

We have energy shocks, wage pressures, earnings estimates that remain ridiculously high, and a Fed that is likely to overshoot.

Despite the declines, stocks are still priced for perfection.

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