Strong Jobs Data and Inflation Increase Burden On Fed
After a grueling week of higher interest rates, some of Thursday’s Fed speak soothed the markets. As we have previously mentioned, we are not huge fans of the ceaseless opining that has become the norm from the Fed. We are often confused by Fed comments which tend to require clarification later on.
We would prefer to focus on the data. Employment remains tight, as evidenced by weekly unemployment statistics and a very strong January Jobs Report. Although we are seeing many large corporate layoffs along with signs of a slowing economy, the unemployment data suggests the economy is much more resilient than many experts assumed. Inflation is also proving to be stickier. While some inflation will certainly be transitory, wage inflation and service inflation are less likely to fall. As the 10-year Treasury surged above 4.000% this week, bond traders are more accepting of the idea that persistent inflation could drive interest rates higher and make qualifying for a mortgage more difficult.
Higher interest and widening spreads are starting to negatively affect the commercial real estate markets, especially office spaces. Lenders are becoming more selective in their loan decision-making process. We expect to see more and more defaults within the commercial space as the era of easy money comes to an end. In the single-family home sector, activity on the eve of the busy spring buying season is showing signs of life. Nonetheless, volume is a far cry from the frantic pace of recent years. Qualifying for a home remains challenging but we are seeing buyers change their expectations based on affordability. We assume that price adjustments will be required to close the gap between buyer and seller.
The deeply inverted yield curve is troubling to us and should be taken as a serious precursor to a recession. No one knows what type of black swan event is circling until it happens, but a sharp drop in interest rates amidst the realization the economy has stalled is one possible outcome in the coming months. Also, a slow grinding economy with fits and starts remains another possibility in what is being called a soft-landing outcome. The present moment can only be described as unusual. The economy seems to be slowing, but inflation remains high. Housing activity is at a multi-decade low, but wages continue to go up as employment remains tight. Only in time, will we know the true impacts of Fed policy.