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Treasury Yields Spike and Seemingly “Spar” With Stock Market as Yellen’s Goal is Realized on Her Final Days

The market’s extreme volatility over the past few days has many “ironic” elements: (1) A historic market crash was triggered by long awaited good news. The January unemployment report released last Friday indicated a spike in wage growth.  This has been a longstanding goal of the Fed during it’s decade long extraordinary stimulus measures. Of course the first goal was to stabilize the economy out of the 2008 crash. But in recent years, the “endgame” and return to normality was to be triggered by evidence of wage growth and accompanying inflation as the “full employment” goal has been reached, per the Fed’s definition (4.0% unemployment). This goal implied an altruistic Fed, intent on improving life for the average American. (2) This data came out on Janet Yellen’s final business day as Fed Chair; (3) The “good news” sent markets crashing, triggering a selloff in stocks AND treasury bonds with the 10 year yield spiking over 2.80%, reaching 2.89% on Monday. Why? The “new normal” of worldwide central bank stimulus is finally ending and a return to “normal” may be soon. It’s been so long since central banks have adopted a “normal” stance that investors have seemingly forgotten what its like. A quick summary of “normal”: Fed rate at about 3.00%, balance sheet down to about $1 trillion (meaning another $3 trillion of bonds sold). The warnings from many hawks may be true: The decade of stimulus and “easy money” has encouraged risk taking, leverage and inflated the prices of nearly all asset classes including stocks, government bonds, corporate bonds, junk bonds, commercial real estate, etc. The “fear” in the market is that all of these assets will be, “marked to market” after the Fed returns to “normal stance”. The relationship between stocks, bonds and expectations took an interesting turn on Monday.  During the peak of volatility, as the Dow was crashing over 1000 points, the 10 year treasury rallied from 2.86% down to 2.65% as markets were convinced that the Fed would possibly slow down on rate increases due to the market volatility caused by the expectation that the Fed would raise rates. It was like a cat chasing its tail!  Regarding inflated asset values, Janet Yellen mentioned the relationship between CRE “rents and values” in her CBS Sunday Morning extended interview. Wow, the outgoing Fed Chair warning about cap rates! Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners