Rate Normalization
Yesterday, the Fed lowered the federal funds rate — the interest rate banks charge each other for short-term loans — to a range of 4.25% to 4.5%, down from its previous target range of 4.5% to 4.75%. This is a bit of a hallmark in the interest rate world as the yield curve has normalized with short-term rates now lower than long-term. For more than two years, the rate curve was inverted and we are taking notice of this normalization. While short-term traders frowned at the more hawkish tone of the Fed, it’s important to understand why the curve has normalized.
GDP was released this morning coming in at 3.1%, higher than anticipated. Several other economic indicators are signaling economic strength as well, not the least are the various stock market indices that are trading near all-time highs. In short, the economy is STRONGER than many anticipated and the Fed is posturing accordingly. We know this now because the rate curve has normalized as the Fed has performed a minor miracle by extinguishing runaway inflation WITHOUT putting the economy into recession. This isn’t a debate anymore as both the bond and the stock market are confirming this accomplishment. While yesterday’s traders might throw a brief fit about fewer rate cuts ahead, we note the economy is strong and may be accelerating. Simply put, this is good for equities. We will allocate accordingly.
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