Today, the market is focused on economic data and Fed Chair Janet Yellen’s testimony before Congress (as well as any comments from the Tweeter in Chief). There has been much hubbub about the bond market not sufficiently pricing in a March Fed Funds Rate hike and that, if Janet Yellen sounds a hawkish tone before Congress, there could be a backup in UST yields. I believe this is true of the short end of the curve.
The yield curve, two years and in, cannot get too far ahead of Fed policy as Fed policy has a direct impact on short-term rates. However, the long end mainly prices versus inflation expectations. Thus, other than a possible mild backup in long-term rates (mainly by algorithms and reactionary investors), the result of a more hawkish Fed Chair should be a somewhat flatter yield curve, with most (if not all) of the rate rise coming on the short end of the curve. If the bond market reacts by sending longer rates significantly higher, I would use it as an opportunity to add just a smidge of duration.
I don’t expect Ms. Yellen to receive much love from Republicans in Congress. There are some on the right side of the aisle who believe Ms. Yellen and the Fed kept monetary policy extraordinarily accommodate to help President Obama and the Democrats move forward with their fiscal and regulatory policies. My advice to conspiracy theorists is: Put down the tin foil and step away.
Yes, fiscal and regulatory policies did play a part in Fed policy decisions, but not for political purposes. The Fed maintained extraordinarily accommodative to, hopefully, offset contractionary fiscal policies, both at home and abroad, which threatened to bring about disinflation or deflation.
I would also point out that, if not for accommodative monetary policies which, along with demographic demand for income, corporate borrowing costs might not have been low enough to foster the energy boom from 2011 through 2014. Remember, fiscal and regulatory policies were decidedly anti-carbon energy. Fed policy essentially thwarted the energy policy goals of the Obama administration.
That said, my opinion is that the Fed has remained too accommodative for too long and is now harming productivity by allowing inefficient and unproductive companies to remain in business. For the U.S. economy to really build momentum, productivity gains are needed.
Raising rates and making financing cost-prohibitive to weaker businesses would do this. Without this cleansing of the U.S. business sector, tax and regulatory reforms, while probably providing some pickup in economic growth, will be buffeted by significant headwinds generated by unproductive (zombie) businesses.
About Thomas Byrne
Thomas Byrne brings nearly 30 years of financial services experience to Wealth Strategies & Management LLC. He served as Director of Taxable Fixed Income for Citigroup, Inc. and predecessor firms in New York, NY. During the course of his long fixed income career, Mr. Byrne was responsible for trading preferred stock, corporate bonds, mortgage backed securities, government debt, international debt and convertible bonds. Mr. Byrne was also responsible for marketing, sales, strategy and market commentary within the taxable fixed income markets.