Today, the Federal Reserve raised interest rates by 50bp (half a percentage point), the largest increase since 2000. They also laid out plans to start slowly unwinding the enormous $9 trillion balance sheet the institution is carrying. We first highlighted the danger that understated and rising inflation posed back in November while the Fed was still talking about inflation as “transitory”. At the time, we expressed our doubt on that, and it seems the Federal Reserve is coming around to our point of view with today’s statement saying, “The Committee is highly attentive to inflation risks”.
We told subscribers to short the SPY and QQQ back in early January at much higher levels based on our expectation that the Fed would have to raise rates more than the market expected and hoped, and that’s been a highly-profitable call. Since we originally wrote about inflation in November, the yield on the 10 year treasure has nearly doubled and briefly traded above 3% today.
Shortly after the announcement by the Fed today, the market traded down. Since then, Chairman Powell has said that the Fed is not considering 75bp rate hikes, and that caused the market to rise quickly. We believe that Chairman Powell is telling the truth that the Fed isn’t considering 75bp rate hikes right now. We also note that Mr. Powell has admitted he has been behind the curve, and should have raised rates sooner and faster than he has.
Ultimately, inflation will make the call on how much and how fast the Fed needs to raise rates. Currently, the official rate of inflation is 8.5%, an approximate 40-year high. The Truflation index says it’s closer to 11.5%. And based on what we know to be understated statistics on food and shelter, we think the real rate of inflation is in the mid-teens. Perhaps auto prices won’t keep rising as much as they have in recent years, and at some price for oil, there will be demand destruction. However, based on lack of planting in Ukraine and a Russia-related fertilizer shortage, food prices are going to rise. Despite higher interest and mortgage rates, housing prices haven’t fallen yet.
That’s a long way of saying the Fed has been wrong in its projections before, and will need to continue raising rates throughout this year. The market may be temporarily enthused about no threats of 75bp rate hikes, but last week, it was down on the realization that we were getting 50bp rate hikes. We’re going to continue to think strategically and long-term, and will keep subscribers updated on this important issue.
