Recession, Retreat, Restrictive

July 8, 2022

Last Week in Review: Recession, Retreat, Restrictive

This past week was filled with “R” words, including the growing fears of a global recession as economic data around the globe points to a slowdown. Let’s discuss what happened and the big events to watch out for next week.

Recession

The dreaded “R” word has gained steam after the Atlanta Fed GDPNow forecasted a -2.1% for the 2nd Quarter GDP. A recession is defined as back-to-back quarters of negative growth, so if the official GDP readings show the 2nd quarter contracted, then we are in a recession today.

A few things happen during a recession:

  1. Long-term rates do not go higher
  2. The Fed can’t raise rates “expeditiously”
  3. Energy and commodity prices decline
  4. Home price gains stall

We are already seeing three of the four above take place. The worry is #2 as the Fed remains hawkish and is committed to a .75% rate hike at month’s end.

Restrictive

“Participants concurred that the economic outlook warranted moving to a restrictive stance of policy, and they recognized the possibility that an even more restrictive stance could be appropriate if elevated inflation pressures were to persist.” FOMC Minute June Meeting.

The above quote from the Fed Minutes unnerved the bond market on Wednesday as it showed the Fed will continue to hike rates “expeditiously” if inflation doesn’t moderate.

It’s important to remember the Fed only controls the overnight Fed Funds Rate and the Treasury market essentially controls the Fed. So, the Fed may go ahead and raise rates further if inflation doesn’t moderate but long-term rates, like the 10-yr Note, will stop going up when it senses a recession or slower economic conditions on the horizon.

Retreat

The bond market is already talking to the Fed and saying you can’t raise rates much further. The 10-yr Note has retreated down to 2.95%, from 3.49% at the June Fed Meeting. The 2-yr Note has moved up to 3.00% so this 2/10yr Note yield inversion is yet another warning signal of slower economic conditions.

What has also retreated this week was oil prices, which have plunged from a recent closing high of $122, down to $97. Recession fears elevate lower demand fears, and this has pushed oil and other commodity prices sharply lower.

If oil prices remain at current levels or go lower, it would go a long way to lowering inflation, helping long-term rates remain low and giving consumer sentiment a boost.

Bottom line: Long-term rates have stabilized but we should not expect much more improvement until inflation moderates further. With that said, if you are interested in purchasing a home, it remains a great time with rates beneath the rate of inflation.

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