The Fed's Hawkish Pressure Is Working Against Inflation

The Federal Reserve has stuck by its aggressively hawkish stance despite massive pains suffered in financial markets and growing risks of a recession. Markets are so convinced by and so scared of the Fed that they have raced far ahead of current policy to anticipate a lot of price hikes ahead. Soaring mortgage rates are one example of the Fed’s sharp impact. The 30-year fixed rate mortgage was last this high during the recession of the Great Financial Crisis (GFC).

Source: Freddie Mac, 30-Year Fixed Rate Mortgage Average in the United States [MORTGAGE30US], retrieved from FRED, Federal Reserve Bank of St. Louis; June 28, 2022.

Source: Freddie Mac, 30-Year Fixed Rate Mortgage Average in the United States [MORTGAGE30US], retrieved from FRED, Federal Reserve Bank of St. Louis; June 28, 2022.

These suffocating mortgage rates are an important sign of victory for a Fed whose primary inflation concerns come from housing.

An even clearer sign of victory comes from the bond market, specifically the breakeven rates on five- and 10-year Treasury Inflation-Protected Securities (TIPS). Reuters reported that these TIPS “slid to 2.636% and 2.362%, respectively, a level last seen in September 2021.” Nancy Davis, managing partner and chief investment officer at Quadratic Capital Management LLC, accordingly observed that “the breakeven market, the difference between TIPS versus regular Treasuries, is dramatically downward sloping. It’s barely above the Fed’s long-term average (inflation) target of 2%.” In other words, the bond market is already anticipating that the Fed’s aggressive push to normalize monetary policy and fight inflation will work.

A broad swath of commodities and commodity-related stocks are suffering under the weight of the Fed’s success. The charts below are just a sample: diversified commodities producer BHP Group Limited (BHP), iron ore producer Rio Tinto (RIO), and copper producer Freeport McMoRan (FCX) (charts from TradingView.com). Even agricultural commodities like corn and lumber look like they have topped. Perhaps these declines represent the early signals of a recession. If so, those concerns may wait for a post-inflationary day.

BHP printed a double-top in 2022 BELOW the 2021 highs.

BHP printed a double-top in 2022 BELOW the 2021 highs.

RIO topped out in 2022 well below 2021's highs. It now trades at the November, 2021 low and is at risk of challenging the November, 2020 low.

RIO topped out in 2022 well below 2021’s highs. It now trades at the November, 2021 low and is at risk of challenging the November, 2020 low.

FCX is close to erasing ALL its 2021 gains.

FCX is close to erasing ALL its 2021 gains.

Spot corn prices closed below the uptrending 200-day moving average for the first time since January. The topping formation for 2022 looks like the dreaded head and shoulders top (shoulders in March and June, the head in April).

Spot corn prices closed below the uptrending 200-day moving average for the first time since January. The topping formation for 2022 looks like the dreaded head and shoulders top (shoulders in March and June, the head in April).

Lumber prices topped out in 2022 well below the 2021 highs.

Lumber prices topped out in 2022 well below the 2021 highs.

 

Be careful out there!

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Harry Goldstein 1 year ago Member's comment

You've captured the situation exaclty.

Dr. Duru 1 year ago Contributor's comment

Thanks!