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Making Sense of the Fed’s Pause

by | Nov 1, 2023

To no one’s surprise, the Federal Reserve held interest rates at current levels for the second straight meeting. The Fed’s statement noted that the U.S. economy remains strong, with another blowout number in the third quarter. 

 And once again, the Fed noted that “inflation remains elevated.”  

The consensus is that rising U.S. Treasuries will act like a rate hike on their own. The 10-year U.S. Treasury bond recently breached 5%, aided by ongoing concerns in Washington about the stability of U.S. debt and questions about the Department of the Treasury’s ability to refinance trillions in existing debt. Yet, it’s curious that the Fed – once again — isn’t talking about the 800-pound gorilla in the room…  

The U.S. debt — and the $1.7 trillion deficit — is holding the Fed back from accomplishing its mission to combat inflation and finally drown it. The Fed should raise interest rates at least once more to signal to the markets that it’s serious about stopping a resurgence of inflation in the next two years. And then, rates will likely remain elevated (about 5% through 2024). 

What Powell Should Be Saying

 Chair Jerome Powell doesn’t want to be Arty Burns, the embattled Fed chair of the 1970s that saw multiple rounds of inflation wipe out purchasing power. What’s always interesting about Burns is that he, too, never took aim at Washington D.C. until it was too late. 

 Burns had retired from the Fed by 1978 and finally explained the challenges he faced during the ’70s in a speech a year later in Yugoslavia. When asked what went wrong, Burns noted that he was fighting several inflationary factors. Those included war spending, Nixon’s decision to take America off the gold standard, an increase in money supply, energy shortages fueled by OPEC, and big COLA increases on government entitlements, among other factors. 

 Look around. We’re seeing VERY similar conditions. We poured trillions of dollars from the sky in the last three years, and the full inflationary impact has not been realized. We’re now supporting two wars, running trillion-dollar deficits, paying large entitlement bumps, and dealing with energy shortages here in the United States — as we draw down our Strategic Petroleum Reserve. 

 Powell said in 2020 that the U.S. deficit was unsustainable, and recently hinted that congressional spending must be reigned in. 

“The path we’re on is unsustainable, and we’ll have to get off that path sooner rather than later,” Powell said at the New York Economic Club two weeks ago. 

 I suppose that’s a start. But Powell had the opportunity before congress to explicitly explain the problems — and that the fiscal deficits are hindering his progress.  There’s good reason to argue that a balanced budget would help curtail inflation, and the Fed could move on cutting interest rates sooner rather than later. 

 Unfortunately, we know Washington will continue to spend recklessly until repercussions are felt. For two months, the bond market has screamed that Washington needs to get its fiscal house in order. Just a few days ago, the U.S. 10-year bond paid a higher yield… than the 10-year bond of Greece, the poster child of debt insanity over the last decade. 

 Just think about that…

What Comes Next 

The Fed’s likely going to raise rates one more time. It’s unlikely to change the inflation target, but the longer interest rates are elevated — the more likely there will be a bigger problem that we don’t see yet. Refinancing in real estate will be a major issue in the next three years. The Treasury’s ability to refinance $7.6 trillion in debt in the next two years will likely drive interest rates higher. And there’s that question of what’s happening within the banking sector as we move toward March 2024, and the Fed needs to address its bailout programs. 

 This is a very tricky market — and I agree with Stanley Druckenmiller that the next few years will be quite complicated. As I’ll explain in Tactical Wealth Investor next week, the time to focus on the long term is now. Investors need to purchase great businesses that have real demand.  

But we must pay very close attention to current valuations. The threat of valuation compression is very real — and it’s a bit alarming that so many different stocks are currently priced for growth at price-to-earnings multiples north of 25. We will need to be very selective with our choices.  

Tomorrow, I’ll be back with more insight on Midstream in the Energy sector. Here is a place of strong demand, great yields and appreciation upside. 

Chat soon,

Garrett signature



Garrett Baldwin

*This is for informational and educational purposes only. There is an inherent risk in trading, so trade at your own risk. 

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Market Momentum is RED

Momentum and the S&P 500 is now barreling back toward its 200-day moving average. We’ll see if it can buck the trend and take the market higher. The MACD on the SPY is on the verge of turning positive, which would be a very bullish situation.

*This is for informational and educational purposes only. There is inherent risk in trading, so trade at your own risk.


WRITTEN BY<br>Garrett Baldwin

Garrett Baldwin

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