Tuesday, January 28, 2020

When will interest rates bottom?

Back in the days of QE, I noticed a pattern that during QEs, the expected future date of the first rate hike would remain relatively level, but when QEs were stopped, the expected future date of the first rate hike would move ahead in time.

In other words, if the first rate hike was expected to be in December 2012 when a QE round began, it would still be about December 2012 when QE ended.  Then, after QE ended, five months later, the expected date of the first rate hike will have moved back to May 2013.

I never put this observation to intensive statistical scrutiny, but it was a pattern that I saw.

Today, we might look at another pattern.  Since the short end of the yield curve inverted in late 2018, one way we could think about the Fed's posture is to infer from Eurodollar futures markets what the expected last rate cut will be.  The further into the future that expected last cut occurs, the longer we can expect the Fed to have taken a somewhat too-tight posture.

It's not actually that easy to measure, because the curve has more of a bowl shape than a V-shape, so there are several quarters that could be called the bottom.  But, I thought it might be worth seeing.

The first graph shows the quarter with the lowest rate in Eurodollar futures markets.  The second graph shows how many days we are from the quarter with the lowest rate.  So, we could be on a trajectory with a lot of noise that is basically headed for a bottom around the middle of 2021.

But, the bottom is about the same as it was about 6 months ago.  If the bottom happens to jump up another quarter, we could be in a situation similar to the QEs.  Maybe if the Fed holds rates steady, the date of the future rate bottom will move forward in time, and if the Fed drops rates enough, maybe we will continue on that trajectory to mid-2021.

9 comments:

  1. Fascinating work.

    However, the recent coronavirus scare has ammplified my view that the current global economy remains prone to lower inflation and interest rates.

    10-year US treasuries offer 1.6% interest, oil is slumping, metals are slumping, and the world remains glutted with automobiles, smartphones, airline service, you name it. This, after a 10-year long global economic recovery.

    If we do not see higher interest rates and inflation now, when can we expect such phenomena?

    Perhaps this momentum or inertia towards lower inflation and interest rates plays out in the charts above. I am not sure.

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