Markets are off the planet right now.
Markets are tripping right now. I can’t even fathom what they’re thinking.
Based on the cost of money across different time horizons, right now, markets are pricing in nearly eleven straight rate hikes by July 2023.
Eleven!
Even if we assuming the tightening cycle starts in June – which I personally struggle to see happening – but assuming things kick off in June, that’ll mean the RBA will hike by 25bps every meeting for 13 months straight!
Never mind that this has literally never happened before.
And never mind that that would give us the highest interest rates in the developed world, which would put a rocket under the Aussie dollar.
There’s something weird going on here. This is just not going to happen.
And while the market is pricing in eleven rate hikes (man, I can’t even say that with a straight face), I’m not sure we’ll even get one.
I’ve written about this before, but there’s a few reasons why I reckon the RBA will be very reluctant to hike.
First, the wages data just doesn’t support the case. The RBA has said they will wait til they see strong wage data in print, but it hasn’t happened yet, and it’s not clear it will happen with the next wages print either.
Second, mortgage rates have already started drifting higher, and thanks to the huge number of borrowers who went to fixed rates in 2020, there’s something like $500bn worth of fixed-rate mortgages resetting to higher rates over the next year or so. So that gives the RBA a free hike for nothing.
Third, I’m still not seeing permanent supply-side bottlenecks. Yes, there’s been a lot of disruption (including a war!) but it’s not clear to me that it’s baked in as permanent yet, and I reckon the RBA will want to wait and see as well.
Fourth, China is still going full-tilt at resaphing its property sector. This will deflate commodity and energy demand at best, and crash the global economy at worst. The international situation contains massive downside risks, and the RBA will be well aware of them.
When central banks hike rates, usually something breaks.
We live in highly finacialised and leveraged economies. These economies get used to low rates.
When rates rise, that puts stress across the system. You never know where it’s going to show up – US sub-prime mortgage derivative, emerging market bonds, crypto? It could be anywhere.
But as this chart from TS Lombard shows, whenever the US Fed hikes, something breaks.
Today’s central banks are well aware of this tendency, so they’re got take a very cautious approach.
That is, they’re not going to rush in all guns blazing with 11 rate hikes in a row.
ROTFL.
JG.