By Aditya Sesh
In the years of the pandemic, the Fed kept the rates close to Zero.
This meant that interest charged by banks for mortgages was also at a historical low. Years of low interest had helped home buying since the 2008 crisis.
During this time, the average cost of a home in the US was around $275,000 with sales of one million homes per month in 2020. This actually helped many people buy homes during the pandemic time, especially outside the city areas where they would have more room, mainly to adjust to working from home and to ensure that all the cohabitants did not step on each other’s toes. Passive investors and investment firms also bought homes to flip them later.
With the onset of inflation over the years and a reasonably good performance of the economy, the median cost of homes in the US has increased to $400,000 inching up to $500,000, especially in areas of Austin which received numerous migrants from California for example.
The era of low interest is over since the US Fed has raised interest continuously to keep inflation close to the targeted 2% p.a. The inflation increased steadily to 9.1% on a monthly basis and then declined to 3.2% on Month to Month basis, still away from the targeted inflation.
This then brings us to what happens from here.
Traditionally, Fed rates and Equity markets have had an inverse relationship. If one looks at the correlation between fed interest rates and S&P 500 returns, the picture has always been one of inverse correlation or negative correlation. They go in opposite directions as can be seen from 2019 up to the latter part of 2022. That was also the traditional trend in earlier periods.
So, what changed?
The US economy did better than expected in 2022 in Q3 & Q4. So did the US markets. No doubt with an increase in rates, a lot of money did flow into the US economy. For the first time in recent years, both the interest rate curve and S&P 500 moved in the same direction.
Many investment strategies that were in vogue earlier will now have to be redesigned. GDP on a Q to Q basis is flat, interest rates are elevated, and inflation has dropped at least at a wholesale level, yet home sales are growing after a decline, while home prices have doubled. US Credit rating was lowered and equity markets are in low peak consolidation mode. The situation is quirky and strange.
My understanding is that a multi-asset class manager will derisk by booking some profit onto US real estate, selling some Treasury notes and selling Equities on declines. This way risk of timing and any upward movement risk after the sale will be reduced. Once we reach an oversold position, entries can be initiated again. In my earlier articles on the US economy, I had predicted a mild recession
(Author is Founder and Managing Director of Basiz Fund Service Private Limited)