U.S. stocks surged on the first trading day of Harris' presidential campaign, but the second day was less rosy.
Even as markets try to trade around the November election, there is another issue that is more looming - markets believe there is a nearly 95% chance that the Federal Reserve will cut interest rates in September.
Jim Bianco, president and macro strategist at Bianco Research, said all of his positions are now neutral. He held 20% in short-term inflation-protected Treasuries through the end of April and was underweight mortgage-backed securities through the end of May.
The firm's fixed-income index is tracked by the WisdomTree Bianco Total Return Fund (WTBN), which had the best returns in its category in the second quarter.
Bianco said there are two ways to calculate the market's estimate of the neutral federal funds rate - the rate that neither constrains nor stimulates the economy - and both are significantly higher than the Fed's forecast of 2.75%.
In other words, to reach the neutral interest rate level expected by the Federal Reserve, 10.5 25 basis point rate cuts are needed, while the market expects that only 6.6 25 basis point rate cuts will be needed to bring the interest rate to a neutral level.
He noted that the difference can also be explained by looking at the federal funds rate after deducting core personal consumption expenditures price index (PCE) inflation - currently 2.93%.
“That’s because the Fed is anchoring to the post-financial crisis period (post-2009), which is shown in red in the chart below. During that period, real interest rates averaged -1.08%. So the current rate of 2.93% must seem punitive to them. “It makes sense that there are constant calls to start cutting rates sooner rather than later,” he said.
But the post-financial crisis era is an anomaly in the market’s eyes. Prior to that, real interest rates averaged 2.55%, not much different from the current level of 2.93%. “The market is much more optimistic about the extent to which current real interest rates are constraining the economy,” Bianco said, “and the stock market continues to reach new highs, which supports this view.”
Right now, keeping rates steady is actually more in line with what the market wants than what the Fed wants. Bianco said the risk is that if the Fed starts cutting rates, it could do so too soon and too much, risking what he called a "toxic reaction."
"To use an analogy, we are now at the top of a roller coaster, where everything stops. But for the rest of the ride, the roller coaster can follow one of several tracks. So we remain largely positive and relatively neutral, seeking clarity on the roller coaster track to start the next thrill ride."
The article is forwarded from: Jinshi Data
