The Storied History of Interest Rate Tightening Cycles in the U.S.

1. No Good Deed
Goes Unpunished
The Storied History of Interest Rate Tightening Cycles in the U.S.
Blake Huber, Trading & Investing Working Group
December 23, 2022

2. Contents
Preamble: The Consensus View……………………………………………………………….………..03
No Good Deed Goes Unpunished…………………………………………………….……….……....09
Rising Rate Regimes: When Negative Real Rates Turn Positive………………....……12
Fed Funds Rate vs. Inflation: A Look at the Historical Relationship..……………….25
Drawing Conclusions from the Historical Record…………………………………………….…28
2
SECTION SLIDE #

3. 3
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4. The Consensus View
Currently, the majority of economic forecasters
are predicting a mild recession, if any
4

5. September, 2022
5
Rick Rieder,
CIO, Fixed Income, Blackrock1

6. October 11, 2022
“The US is probably headed for a
recession but it’s likely to be a mild one, in
part because the Federal Reserve will be
wary of raising interest rates too far”
former Federal Reserve
Vice Chair Alan Blinder 2
_
6

7. October 21, 2022
“For the most part, economists said
any looming recession in the US
would likely be mild or moderate, in
part because the unemployment rate
remained near a five-decade low
well into 2022.”
Reade Pickert | Bloomberg3
_
7

8. November 18, 2022
“The U.S. will probably stick
a soft landing next year: the
world’s largest economy is
forecast to narrowly avoid a
recession as inflation fades
and unemployment nudges
up slightly.”
Goldman Sachs Research 4
_
8

9. Goldman Sachs Research 4
November 18, 2022
_
“There are strong reasons to expect positive
growth in coming quarters,” Jan Hatzius, head of
Goldman Sachs Research and the firm’s chief
economist, wrote in the team’s 2023 Outlook.”
CONTINUED
9

10. No Good Deed Goes Unpunished
The Storied History of Interest Rate Tightening Cycles
in the United States
10

11. 2022 Rate Hike Cycle vs. Cycles In Last 40 Years
1988
Change
in
Fed
Funds
Rate
(%)
● 2022 is 2X faster than 1988
rate cycle
Prior to 2022:
● 1988 fastest rate hiking cycle
11

12. 2022 Rate Hike Cycle vs. Cycles In Last 40 Years
CONTINUED
12
1988 - 1989
Hiking Cycle
375 p.p.

13. Rising Rate Regimes
The Effects When Negative Real Rates Turn Positive
13

14. 1988 - 1989 Interest Rate Hiking Cycle
1988 - 1989
Hiking Cycle
14
375 p.p.
1988 - 1989 Hiking Cycle

15. 1988 - 1989 Interest Rate Hiking Cycle -- Details
WHY:
How Much:
Result:
● Federal Reserve “Fine Tuning” of the economy
● 325 basis point increase over 2 years (22 months)5
● S&P500 (-18% by Oct 1990). 8 month recession
began in July 1990
15

16. 16
375 p.p.
1994 - 1995 Hiking Cycle
1994 - 1995 Interest Rate Hiking Cycle

17. 1994 - 1995 Interest Rate Hiking Cycle -- Details
WHY:
How Much:
Result:
● Cited as rare example of economic “soft landing”
● 300 basis point increase over 1 year 6
.
● S&P500 (-10%), but bond prices crashed -31% by
the end of 1994 (yields rose from 6.25% to 8.25%)1
17

18. 18
375 p.p.
1999 - 2000
Hiking Cycle
1999 - 2000 Interest Rate Hiking Cycle

19. 1999 - 2000 Interest Rate Hiking Cycle -- Details
WHY:
How Much:
Result:
Unwind of emergency rate cuts made:
● In fall 1998 to combat the Asian currency crisis
that began initially in Thailand in 1997 and
culminated in 1998 Russian currency crisis.
● Rate cuts made Sept 1998 response to failure of
U.S. hedge fund Long-Term Capital Management
(LTCM) which threatened the U.S. financial system.
● 150 basis point increase over 6 months in 2000 6
● Deflation of Dotcom bubble: S&P500 (-51%),
Nasdaq 100 (-83%)
19

20. 375 p.p.
20
2004 - 2006 Interest Rate Hiking Cycle -- Details
2004 - 2009 Hiking Cycle

21. 2004 - 2006 Interest Rate Hiking Cycle -- Details
WHY:
How Much:
Result:
● Interest rate normalization after 2000 - 2004
monetary stimulus response to Internet bubble
deflation
● 400 basis point increase over 2 years 5
● Excessively low interest rates led to housing
bubble, which peaked in October 2007.
● 58% decline in S&P500 over next 18 months.
21

22. 375 p.p.
22
2015 - 2018 Interest Rate Hiking Cycle -- Details
2015 - 2018 Hiking Cycle

23. 2015 - 2018 Interest Rate Hiking Cycle -- Details
WHY:
How Much:
Result:
● Interest rate normalization after 2009 - 2014
monetary stimulus response to housing bubble
unwind in 2008
● 236 basis point increase over 3 years 5
● Equity rally in first 12 months, followed by 36%
decline in S&P500 with proliferation of COVID
23

24. Tightening Cycle Post Effect Comparison
375 p.p.
24

25. Interest Rate Hiking Cycles Average Post Effects
Post Effect Relationship
to Interest Rate
Increases:
Avg Equity Decline:
Avg Bond Price Decline:
Avg Increase in Yield:
● Economic severity linearly proportional to
rate increases; however, non-linear
dislocations frequent (ex: 2000 hiking
cycle1
; a small increase in FF rate caused
asset bubble to burst )
● - 35% (current sample set; last 3 decades)
● 30Y: - 26.2% | 10Y: -16.5%
● 30Y: +133% | 10Y: +44%
25

26. Fed Funds Rate vs. Inflation
A look at the historical relationship between
the Federal Reserve Funds Rate and US CPI Inflation Rate
26

27. Fed Funds Rate History | 1955 - 2022
27
Federal Reserve of St. Louis (FRED)7

28. Fed Funds Rate vs. CPI Inflation Rate | 1955 - 2022
28
Federal Reserve of St. Louis (FRED)8
Fed Funds rate is greater than the rate of inflation,
especially during times of high inflation.
Fed Funds Rate
Higher than Rate of Inflation

29. Where does that leave us ?
Drawing Conclusions from the Historical Record
29

30. Conclusions
1. Fed Funds Rate: In historical tightening cycles, terminal Fed Funds
rate must generally be greater than rate of Inflation; thus, the current
media narrative that increases in the Fed Funds rate are ending is
incorrect. Fed funds rate must increase.
2. Bond Yields: Given (1) above, high probability interest rates have
not yet peaked; potentially rates may increase across the entire term
structure.
3. USD Dollar (DXY): A strong dollar is a wrecking ball internationally9
,
causing commodity price inflation in all non-dollar denominated
currencies. DXY has strengthened 28% in 18 months, catalyzing
explosive monetary tightening regimes Internationally which are
ultimately USD negative longer term.
30

31. Conclusions
4. The “D” Word: High probability the coming economic slowdown will
be more severe than any in last 2 decades; ostensibly because Fed
will be unable to ease monetary policy in response.
5. Equities: Given (4) above, high probability equity market downside
will be much more severe than currently priced into the market.
(CONTINUED)
31

32. The economist who predicted the 2008
crash warns that a combination of
uncontrolled inflation and ballooning debt
will push the world economy into ruin 10
.
A New Great Depression is coming.
Nouriel Roubini
October 2022
_
32

33. References
Footnote ID Slide # Reference
1 3 ● Deep Recession Talk 'Ridiculous': BlackRock's Rieder, September 2nd, 2022.
Bloomberg Markets and Finance
● The New Inflation Regime. Blackrock.com, Fall 2022.
2 4 ● Fed Restraint Will Likely Keep US Recession Mild. October 11, 2022 Bloomberg.com
by Rich Miller
3 5 ● What's a Recession and How Close Are We to One? October 21, 2022.
Bloomberg.com.
4 6, 7 ● Why the US is Expected to Escape Recession in 2023. November 18, 2022, Goldman
Sachs Research.
5 13, 19, 21 ● Here's what the major interest rate cycles since the 1970s looked like, INSIDER
6 15, 17 ● Fed Funds Rate History 1990 to 2022, Forbes.com
7 25 ● Federal Reserve of St. Louis (FRED). Fed Funds Effective Rate (1955 - 2022).
33

34. References
Footnote ID Slide # Reference
8 26 ● Federal Funds Rate. Consumer Price Index vs. Effective Fed Funds Rate. Wikipedia.
9 28 ● Strong U.S. dollar is wreaking havoc across pretty much every country. Fortune,
September 7, 2022 by Enda Curran.
10 30 ● Nouriel Roubini: a new Great Depression is coming. October 27, 2022 by Will Dunn.
The New Statesman, UK Edition.
(CONTINUED)
34

35. APPENDIX
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