Unveiling the Financial Lifeline

May 19^th, 2023

I hope spring is treating you all well. The weather has teetered from winter to summer conditions, while seemly skipping over spring. Sorry to my recipients outside of San Diego, I know it’s hard to hear San Diegans complain about the weather. 😝 The stock market has performed similarly with significant oscillation in market outlook among investors. The Federal Reserve seems steadfast in continuing with raising interest rates a.k.a. quantitative tightening. May 3^rd revealed the 10^th consecutive rate hike of 0.25% ⁽¹⁾ and a more moderate tone in respect to the future path of rates. What’s eye-catching, are the behind-the-scenes dealings with the bond repurchasing program unfolding since the fall-out in the banking sector. 

Here’s the wall street cocktail hour take…as short-term rates have skyrocketed, this in return has put pressure on the long-term bond market, specifically treasuries. Long-term bond yields no longer look attractive when short-term investors are getting over 5.25% in yield (illustrated by the inverted yield curve) ⁽²⁾. Consequently, bank’s treasury balance sheet values have slowly eroded as the desire for long-term treasuries have dissipated. The federal reserve has decided to buy back treasuries from the distressed banks at par (which would be like buying back a below value CD at original purchase price), which essentially makes the balance sheets whole again. This is a form of monetary stimulus as cash is reinserted into the economy while also raising rates. This seems counter intuitive but necessary to reduce the risk of a further liquidity crisis.   

Like a game of Jenga, we are seeing a deterioration of important economic blocks slowly being taken away from the economy, which isn’t leaving much room for market confidence. Like my 6-year-old son, the federal reserve is determined to re-instate the foundational blocks to stabilize economic conditions in the hopes continuity will prevail in the financial sector. Since October of last year, investors seem unfazed and have staged an impressive comeback, while in the same breath the federal reserve seems hell bent on keeping rates aggressively high. Investors seem to show conviction in Jay Powell’s’ note to the Senate and House that they are confident the economy can continue to grow, just at a slower pace. 

I vote for this outcome versus a Jenga collapse.   🙋‍♂️

Thank you for reading our report and, as always, we welcome any questions or comments you may have.

⁽¹⁾  https://www.cnbc.com/2023/05/03/fed-rate-decision-may-2023-.html

⁽²⁾   https://www.wsj.com/articles/jerome-powell-to-testify-to-congress-on-outlook-for-rates-inflation-e4e7f1e3