On a day when the Unemployment Rate for March dipped to 3.6%, the yield on the 2-year Treasury note rose above that of the 10-year Treasury note, a somewhat unusual circumstance which has often presaged an economic recession in the U.S. With the Federal Reserve poised to continue with a series of interest rate hikes throughout 2022, the odds of a recession, or at least a measurable slowdown in economic activity are rising.

The Fed raised the short term Fed Funds rate in March for the first time since slashing it to 0% at the onset of the Covid-19 pandemic.  Chair Powell has signaled higher short-term interest rates lie ahead, with the prospects for a 50 basis point bump at the May meeting on the table.  The bond market has seen short-term rates surge (more on that in the Fixed Income section), however, the latest CPI print (for February) showing prices climbed +7.9% from a year ago, indicating yields need to rise further.

While broad consumer prices surged +0.8% MoM in February, so-called Core CPI (ex food and energy) climbed +0.5% month-over-month.  Producer prices gained +0.8% MoM which translated into a stunning +10.0% gain year-over-year.  All these readings are the highest seen since the early 1980’s.  The PCE Deflator gained +0.6% MoM and +6.4% YoY.  While rising energy prices are often blamed for price hikes, wages, rent and housing are all seeing steep gains.  The Fed is clearly behind the curve with regard to inflation.

Home prices, as measured by the S&P CoreLogic CS 20-City Index rose +1.79% in January for a +19.1% year over year gain.  Housing Starts rose +6.8% in February while New Home Sales dipped -2.0% MoM, Existing Home Sales fell -7.2% MoM and Pending Home Sales dropped -4.1%.  Mortgage rates are rising as bond yields trend higher, with a 30-year mortgage rate now approaching 5.0%, the highest rate seen in years.  Despite demand for housing far outpacing current supply, the rising cost of borrowing should provide some headwind the further home price appreciation.

The Federal Reserve has at last admitted its “transitory” inflation thesis was flawed and that it now must try and aggressively hike interest rates to help balance supply and demand in the U.S. economy.  Short rates are rising while longer term interest rates have remained stubbornly low, suggesting that many feel a period of slowing economic growth lies ahead, and quite possibly a recession.  For now, however, the U.S. economy remains strong and as the pandemic evolves into an endemic, the consumer is returning as the main driver of U.S. GDP.

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