Flattening the Curve
There are many macro metrics to analyze in money management, but the yield curve is one of the more prominent. Traditionally, short-term rates hover lower than long-term rates as extension in term logically demands higher interest by those willing to lend. However, short-term treasury bills currently yield 5.4% while 10-year treasuries pay just 4.26%. This “inverted curve” has been in place for more than a year as the Fed’s rate adjustment capability only applies to the Fed Funds rate and the discount rate. Fed funds are the rate at which banks lend to one another while discount is the rate banks borrow from the Fed as the lender of last resort. Both set by the Fed, apply to overnight lending only and currently range from 5.25% to 5.5%. For the rest of us non-bank borrowers, the bond market dictates the interest rate.
The Treasury currently has $27 trillion in outstanding debt and they issue securities daily ranging from 7 days to 30 years in maturity. With the overnight rate at 5.5%, the treasury must offer a similar yield of 5.4% on three-month bills to fetch a bid. But the further the maturity the less influence overnight rates have as the bond market trades on its own accord. For the last year, long-term treasuries have been gobbled up under the assumption that the Fed would inflict a recession and all rates would tumble thereafter. That premise has been flat wrong as I’ve noted in many past editions. Strong inflation reports in the past 30 days have finally broken that misconception and long rates have been rising toward shorter, flattening the curve. This comes as no surprise as I’ve articulated that this current rate environment is here to stay. Since 1871, long-term rates have averaged 4.49%, which is HIGHER than today’s average of 4.09%. Rates have adjusted to the long-term average and the economy is functioning just fine. Investors can enjoy returns in both the bond and stock market and our Warcap clients are allocated accordingly.
As always, I appreciate your continued trust and confidence.