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The speed thing with interest rates

21 Oct 2021 6 month(s) ago

What matters is not the level of interest rates, which will stay low, but the pace at which they rise. Because of the massive global debt.

Inflation in Australia is not setting off alarm bells, but it is in the United States. This is coinciding with exceptionally low interest rates and the problem is that the world economy is so saddled with debt, then raising interest rates risks causing a massive economic slow down. Consequently, the focus is not so much on the absolute level of interest rates – which will inevitably remain much lower than the long term average – but the pace at which both government and private interest rates increase. The whole thing is on a hair trigger.

Australia's historical interest rates:

In Australia, the prospect of higher interest rates seems low with inflation weak, at least if the Reserve Bank is to be believed. The governor Philip Lowe said:

"The Board has said that it will not increase the cash rate until actual inflation is sustainably within the 2-3% target range. It won't be enough for inflation to just sneak across the 2% line for a quarter or two. We want to see inflation around the middle of the target range and have reasonable confidence that inflation will not fall below the 2-3% band again. Our judgement is that this condition for a lift in the cash rate will not be met before 2024."

Graham Hand of FirstLinks says:

"The current standoff between the RBA Governor, Philip Lowe, who plans to keep the cash rate at 0.1% until 2024, and the money market, which sees the bill rate above 1.5% by then, is a rare event. Only one will be right, and borrowers, especially overleveraged homeowners, better hope it's Lowe."

Internationally, the picture is different. Bell Potter points out that headline US CPI was at 5.4% in June and July, plus core CPI has also come back from June’s 30-year high of 4.5%. The broker is putting a positive spin on it:

“Many see this as a relief that possibly the recent spike in inflation is “transitory”, but the recent wild card is Oil. We have seen in the last few months OIL up +15% to near 7 year highs plus there is talk about wage pressure in the latest jobs report, we could see cost pressures prevalent for many businesses. ?

“So that makes the upcoming US reporting season one where the market will focus closely on wage costs, input price pressures, price increases, profit margins & any type of inflation signals.

“With Oil now trading above US$80 - will OPEC finally see that global oil ?demand is alive and well and that the world needs more oil. But there has been the shortage of natural gas across Europe, that has ?been what is causing this ‘panic’ buying in Oil.”

Bell Potter says in Europe natural gas prices have gone through the ceiling, as supply is constrained. As winter approaches that is helping to drive demand for oil higher.

“US$80 Oil brings in another factor – inflation. Now with the US Federal Reserve on the verge of “tapering”, taking away all the extra stimulus - just as this global energy demand issue is heating up & causing economic concerns around the globe – now will that play out in the months ahead ?? ?

“The market will soon worry more about inflation, if we see (which we will) that these swiftly increasing oil prices are going to cause commodity prices to spike again and that adds even more fuel to the inflation fire. ?

“So the market will see this coming & thus will anticipate that we will have more ‘hawkish’ FED, which then flows through to Europe & elsewhere -where we will have a more ‘hawkish’ European Central Bank, Bank of England, Bank of Japan, Bank of NZ & RBA etc. And that means that interest rates would rise much sooner than expected and that means stock prices around the world will get re-priced. ?

“When that happens mkts can go through a “wobbly” period as they adjust to the new scenarios. This can see a short sharp drop (as we saw with Tapering in 2013), but then mkts just factor it in & then resume their rally. ?

“US 10 Year Bonds were at 1.58% down from 1.63% the other day but the momentum is there and so is the concern that yields may spike in the weeks ahead and as we saw before spiking yields can often see stocks retreat ?

“Just 6 months ago when US 10 Year Bond yields hit 1.77% in in a 5 week surge - back in February/March, stocks came under pressure because of the pace at which yields rose. Not because they rose. ?

“Then we saw Yields surged 57% going from 1.16% to 1.77% during that time....the S&P lost -6% while the Nasdaq fell -12.5% - individual tech & growth stocks were smashed even harder. ?

“Many will say that a 2% yield will see markets smacked again.?But it is the “pace” that they get there it the real thing we need to watch closely.”

 

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