Fed Starting to Lead Interest Rate Policy from the Rear
Bank of America is calling this, “a new era of volatility.” Bonds, stocks, commodities, precious metals, everything was on the move in dramatic form, with the VIX up 26%, to over 31.5 mid-week. (For a comprehensive scoring of performance see our Credit Bubble Bulletin). Notable were the safe havens selling off in tandem with higher risk assets, suggestive of hedge fund liquidations and another round of intense pressure for risk parity strategies. Leveraged speculators had a tough week, with some pressure alleviated by a positive non-farm payrolls figure on Friday.
Interest rates remain front and center. Markets were unimpressed with Jerome Powell’s casual dismissal of inflation concerns and rising rates. Between the lines, investors are reading that the FED is unable or unwilling to act on the inflation front, so we witnessed another small market-initiated tightening. Treasuries returned to the previous weeks’ lows, with the 10-year finishing well above last Friday’s high, at 1.56%.
Gold and silver lacked luster this week, again, selling off in response to the rise in rates. Noteworthy is the trend among traders to sell gold on a strengthening dollar (up 1.19% for the week), and with real rates improving, to a degree.
From our perspective, the selloff in bullion is a trader rotation rather than an investor migration away from precious metals. Real returns barely break even if you match up the CPI and the current 10-year treasury. If you assume a more realistic inflation number, you still have deeply negative returns, which is positive for gold. Long-term investors are not dissuaded from gold and silver, with rates not yet generous enough to compel a move away. With leveraged traders, though, there is a difference. As we mentioned previously, risk parity hedge funds were also liquidating a combination of treasuries and gold, adding to market pressures. On a positive note, the precious metals miners outperformed the underlying bullion markets this week, with the Gold Bugs index (HUI) bucking the downtrend.
Even with broad commodities under pressure this week, the Goldman Sachs Commodity Index, which favors energy, finished in the black. Oil moved higher with OPEC reaffirming a commitment to keep eight million barrels off the market (pre-pandemic production), and only allowing Russia and Kazakhstan insignificant production increases through month-end. Energy infrastructure also gained in line with energy prices, while the IFRA US Infrastructure Index fared less well, breaking even for the week.
That the new administration is taking a different tack with resource development is no surprise. This week a large copper project was obstructed in Arizona (RIO/BHP), after getting the green light in 2020. We continue to see opportunity in existing projects and current infrastructure, with greater regulation and control driving incumbent advantages and raising the hurdle for success among more fledgling projects.
Real estate was acutely under pressure, with interest rates moving up. The Dow Jones Equity REIT Index remains positive year to date, but has now been under pressure for several weeks as investors consider a rate structure freely (market) determined versus central bank controlled. Likewise, utilities in aggregate gave up 1.9% adjusting to a higher rate environment. We are interested to see when, (not, if) the Federal Reserve announces yield curve control, with knock-on effects into all rate-sensitive assets.
Chief Executive Officer