Valentine's Day chart pack: inflation, rate hikes, and bitcoin
The Federal Reserve is cornered into an aggressive double tightening. Some very bullish and impressive bitcoin charts.
I tried to write this update last week and failed miserably. On Wednesday night, as I was grabbing all my charts, somehow I knew that Thursday morning’s inflation print would render all of my work irrelevant (it did). By Friday morning, the rumors started to swirl about an emergency Monday rate hike, delaying me again.
While bitcoin never sleeps, thankfully the bond market does, so I waited for weekend prices to bring you my latest global macro update and chart pack. Hope everyone enjoyed bitcoin and hip-hop taking over the Super Bowl—the FTX Larry David ad was legendary, but my favorite moment was when Dr. Dre sat down at the piano and played five seconds of 2pac before going transitioning into Still D.R.E. Chills.
The Federal Reserve has quite a situation on its hands. A lot has happened over the past few months, so let’s bring us all on the same page by highlighting several of the key dynamics affecting global rates and risk markets today:
Monetary policy has been extremely easy since the pandemic began. Now, inflation is at a 40-year high of 7.5% and will force the Fed to raise interest rates. Tightening one.
The Fed’s reverse repo facility, which can be thought of as a risk-free storage facility for excess bank reserves, is flooded with cash (over $1 trillion per day is invested overnight in this facility). This forces the Fed to shrink its balance sheet and drain reserves from the system. Tightening two.
Risk markets are not very happy with the idea of a double tightening. Stocks are showing signs of weakness as rates have risen. Bitcoin is also down over a third from its highs. High-yield credit spreads are at their widest levels in 14 months.
The economy is undoubtedly slowing. Global manufacturing PMI is at its lowest levels in 15 months. However, it is still in expansion.
The market is pricing the first 1% of hikes, and soon, but the forward swaps market is already predicting rate CUTS in 2023. In short, the market expects the Fed to steadily hike rates this year but eventually cut rates next year as either the economy enters recession or the financial markets experience yet another liquidity crisis. Either is possible. Both are also possible.
With that backdrop, let’s dive into some charts and further analysis around the Fed, rates markets, risk markets, and the bitcoin’s new and very important range.
Valentine’s Day chart pack
US Treasury yield curve (10-year minus 2-year)
Nasdaq 100 ETF (QQQ)
US Treasury 10-year yield
US Treasury yield curve
This is a long-term chart of the yield curve. The yield curve is currently in collapse formation.
Yield curve inversions predict recessions, or at the very minimum a rate-cut cycle, and that’s what you see playing out. Inflation is raging, so the Fed is talking the market into pricing in approximately 1% to 1.5% of interest rate hikes over the coming year. This has caused a rapid increase in front-end yields. While we get into the chart of long-term yields later in this update, 10-year yields have been more stubborn to rise than the Fed-sensitive 2-year part of the curve. This mismatch in sensitivity to today’s inflation statistics has caused a major flattening of the yield curve. I point out the declining highs in steepness over the past decade only to demonstrate that we are in a post-2007 regime, and each time the Fed tries to tighten monetary policy, the curve’s lack of steepness physically constrains just how much it can raise rates each cycle.
With the emergency Valentine’s Day rate hike off the table, markets will focus on whether the first hike is 25 or 50 basis points. As we see from Bloomberg, the market is currently 50/50 on 50 bps—we’ll probably have some strong indication from Fed speakers over the next few days which way they are leaning:
It doesn’t matter: hikes are coming, the yield curve will invert, and the Fed will eventually have to reverse course. But how soon?