The Bond Market Has Spoken. Should Investors Listen? | Joseph Wang & Harley Bassman
Mar 16, 2022
01:01:43
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Quick takeaways
The flattening yield curve and potential inversion are signals of a possible recession, with historical track records in predicting such events.
Rising interest rates have implications for various asset classes, including risk parity strategies and equities with bond-like characteristics in a steepening yield curve environment.
The misconceptions surrounding forward rates as market predictors highlight the importance of considering a range of market factors when assessing future interest rate movements.
Deep dives
Yield curve flattening and inversion
The podcast discusses the flattening yield curve and the potential inversion, which is seen as a signal of a recession. The guests highlight the historical track record of the yield curve in predicting recessions. They discuss the factors contributing to the current flattening, including quantitative tightening and supply and demand dynamics. While the guests acknowledge the predictive power of the yield curve, they emphasize the importance of considering other market factors and the potential impact of the Federal Reserve's actions in determining the future path of interest rates.
Implications of rising interest rates
The guests explore the potential effects of rising interest rates on various asset classes. They discuss the potential impact on risk parity strategies and the challenges faced by leveraged funds in such conditions. Additionally, they consider the bond-like characteristics of certain equities and the implications for investors in a steepening yield curve environment. The guests also highlight the role of inflation expectations in shaping the bond market and the Fed's potential policy response.
The role of forward rates in market pricing
The guests shed light on the misconceptions surrounding forward rates as market predictors. They explain that forward rates are a pricing mechanism and demonstrate how they are derived from spot rates through mathematical discounting. The guests caution against interpreting forward rates as explicit predictions and stress the importance of considering a range of market factors when assessing future interest rate movements.
The potential impact of Federal Reserve actions
The guests discuss the potential effects of the Federal Reserve's actions, particularly quantitative tightening (QT), on interest rates and market dynamics. They highlight the influence of liquidity and supply and demand dynamics on interest rates. Additionally, the guests debate the implications of different QT strategies on risk assets and emphasize the importance of avoiding over-signaling and giving excessive confidence to market participants.
The significance of inflation and inflationary pressures
The guests address the significance of inflation and inflationary pressures in the current economic environment. They discuss supply shock dynamics, particularly in commodities such as wheat and oil, and the potential impact of these shocks on inflation expectations. The guests also discuss the challenges faced by central banks in balancing inflation concerns with economic growth considerations, and the potential consequences of higher inflation for bond prices, risk assets, and investors.
The yield curve has flattened dramatically - should investors be worried as the curve is very close to inverting? Joseph Wang & Harley Bassman are on the case.
Follow Harley Bassman @ConvexityMaven
Follow Joseph Wang @FedGuy12
Follow Jack Farley @JackFarley96
Follow @Blockworks_
Bassman's most recent piece: https://www.convexitymaven.com/wp-content/uploads/2022/02/Convexity-Maven-Dangerous-Curves-Ahead.pdf
Wang's most recent piece: https://fedguy.com/breaking-the-system/
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