Markets Have Bought The Fed’s Transitory Narrative Hook, Line And Sinker (Part Deux)

06/15/22 01:45PM EDT

The guest commentary below was written by Jesse Felder of The Felder Report. This piece does not necessarily reflect the opinion of Hedgeye.

Markets Have Bought The Fed’s Transitory Narrative Hook, Line And Sinker (Part Deux) - 2022 06 15 13 42 32

“April’s inflation figures came in hotter than expected and there are plenty of signs suggesting tomorrow’s report on May CPI will only add to that trend. As a result, you might think that markets may begin to price in an inflationary consensus. You would be wrong.”

That’s what I wrote this time a year ago but it remains true today, the only difference being that the inflation numbers are now nearly double what they were then.

Friday’s CPI report showed headline inflation in May running at 8.6% year over year, the fastest rate in over 40 years. Still, markets are discounting a future in which inflation peaks right about now and then falls back to its long run trend very rapidly.

https://twitter.com/jessefelder/status/1536782946274684928

As former Fed Chief Ben Bernanke wrote recently, the single most important factor in reining in inflation is the public’s confidence in the central bank’s willingness and ability to make it happen.

https://twitter.com/jessefelder/status/1536755856888328193

The trouble is that because the Fed’s forecasts for inflation have been so terribly wrong for so long now, it may be hard for the public to maintain that faith.

https://twitter.com/jessefelder/status/1535659951418331137

The longer extreme price pressures persist, the greater the chance that that faith is lost completely.

https://twitter.com/LizAnnSonders/status/1536299749766209536

Furthermore, markets are not only pricing in a rapid return to normal in inflation; they are assuming that a terminal fed funds rate of less than 4% will get it there.

https://twitter.com/ReutersJamie/status/1536304583147913217

4% might seem like a very restrictive rate in the context of recent history. However, relative to the current inflation rate it’s hard to argue it’s not still highly accommodative. Technically, policy wouldn’t really become restrictive until the fed funds rate rises above the inflation rate.

https://twitter.com/jessefelder/status/1536441341701263360

The truth is that the current monetary policy framework is the most accommodative in modern history, more so than even the most accommodative policy seen during the Great Inflation of the 1970’s.

https://twitter.com/jessefelder/status/1533844544592130049

As Stan Druckenmiller points out, however, a truly restrictive monetary policy setting is simply not possible given the still extreme valuations in the financial markets and the fact that the economy may already be headed for recession even with the fed funds rate still very deeply negative in real terms.

https://twitter.com/jessefelder/status/1534933788140003347

As a result, the Fed may soon be forced to put its inflation-fighting goals on hold even as inflation remains well above its 2% target. If so, the markets may have a great deal of future inflation to discount into asset prices.

https://twitter.com/jessefelder/status/1530592474028072960

EDITOR'S NOTE

This is a Hedgeye Guest Contributor piece written by Jesse Felder and reposted from The Felder Report blog. Felder has been managing money for over 20 years. He began his professional career at Bear, Stearns & Co. and later co-founded a multi-billion-dollar hedge fund firm headquartered in Santa Monica, California. Today he lives in Bend, Oregon and publishes The Felder Report. This piece does not necessarily reflect the opinion of Hedgeye.

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