Transcript:

In a prior podcast entitled Beware of a Change in Sentiment, we outlined the possibility of investor exuberance while inflation remained elevated. We explained at the time how this would most probably be contained by a future repressive narrative from the monetary authorities. We seemed to have reached that moment as we approached the end of February 2023.

In his last press conference, Chairman Powell explained how Disinflationary forces was pushing his institution to ease up a bit on the interest rate break. This was taken by many to be a dovish statement. The Minutes from the last Federal Reserve meeting, on the other hand, reflect a continued uneasiness with regards to the current inflation levels. More recent economic data has done nothing to counterbalance this mindset. So here we go again with the good old 2022 narrative. The battle against the inflation dragon must be pursued with the utmost determination.

Nine months ago, Fed funds rates were still under 1%. Today, as we approach the 5% handle, we have yet to see the full impact of the second semester monetary policy filter through the economy.

Furthermore, and as old bonds roll off with the passage of time, the quantity of debt needing to be refinanced is increasing exponentially. For certain corporations, access to fresh new financing is not an issue. However, others are likely to struggle to find refinancing at any price. This increases the default potential for weaker issuers, which we outlined in our podcast Fat cats and starving dogs.

As a result, there is a risk parts of the capital markets could become dysfunctional. If too extreme, this situation may impose a policy pivot on the Federal Reserve, in spite of past narrative and policy actions.

For repressive policy to be maintained, it would have been easier if the overwhelming monetary support since 2008 had not been so extensive in the first place. Unfortunately, past policy has bloated the debt and derivatives market. To bring them to a more manageable size would require process which would take years. Therefore looking beyond their short-term policy narrative. Putting the Fed put to rest does not, for the time being, seem to be a realistic proposition. The Federal Reserve knows it. So too do market participants.

This podcast is for information only. It should not be considered as investment advice. We would recommend seeking professional investment advice when allocating to any asset.