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A Radical Shift In Expectations

Sep. 08, 2019 11:07 AM ET5 Comments
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A Radical Shift In Expectations

As part of the [Weekend Dashboard] report, published to members of EPB Macro Research each week, we cover the trends in global interest rates in great detail.

This week, one area we looked at was the radical shift in US policy expectations. 

Below is an excerpt of the weekend report as well as a reminder that today you can still join EPB Macro Research before the membership fee increases. Today, you can lock in the 2-year anniversary sale rate for the entire life of your membership.

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Shifting Expectations

Below is a chart that looks at the market-implied policy rate 2-years into the future. For example, today's value of 0.93% is suggesting that 2-years from today, the market thinks the Fed Funds rate will be 0.93%.

In early October of 2018, the market reached peak expectations of monetary tightening, anticipating the Fed Funds rate to get to a peak of 3.03%.

A change in expectations from a terminal Fed Funds rate of 3.03% to 0.93% is a 210bps swing, causing the entire Treasury curve to have a parallel shift lower.

2 Year Forward Implied Policy Rate:Source: Bloomberg, EPB Macro Research

There are many analysts and media pundits that continue to suggest the decline in US rates is for factors mostly related to other countries. If the market experienced a 210bps swing in policy expectations, how much should US rates have declined?

At today's expectation of a 0.93% policy rate, the market is suggesting the Fed will lower rates 120bps over the next two years or 4.8 25bps rate cuts.

Earlier in the week, the market was expecting the Fed to lower the policy rate to 0.79% over the next two years, 134bps of rate cuts.

The economic slowdown is certainly a global phenomenon. Both growth expectations and inflation expectations are coming down simultaneously in many major economies.

The result of these two forces moving lower is increased expectations for monetary easing (lower policy rate) and flatter/inverted yield curves.

Until global growth shows signs of re-accelerating or inflation expectations start to ramp higher, these trends of more monetary easing and lower interest rates are likely to persist.

To read this week's full [Weekend Dashboard] report, click the link below. 

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